Coastal Contracts recorded a 75.2% Y.o.Y drop in its 1Q2016 net profit to RM16.4 mln, from RM65.9 mln in 1Q2015. Revenue for the quarter, meanwhile, fell by 43.3% Y.o.Y to RM198.7 mln, from RM351.0 mln in 1Q2015. The substantial decline in earnings was due to the lower vessel delivery in the quarter under review (1 unit) vs. five units delivered in 1Q2015, compressed profitability margins and the recognition of expenses related to share based payments granted to the directors and employees of the shipbuilding and ship repair division.
For 15-Months ended 31st March 2016 (financial year-end changed to June, from December) cumulative net profit stood at RM 154.2 mln, which was within our estimate of RM156.1 mln (accounting for 83.9% of FY16 forecast of RM183.7 mln). Revenue for the period surged 106.2% to RM1.81 bln, which also came in within our expectation of RM1.79 bln.
Meanwhile, the Q.o.Q increase of approximately 77.7% in the company’s trade receivables, (from RM36.4 mln in 4Q2015 to RM64.7 mln in 1Q2016) was mainly attributable to the delivery of the Gas Compression Service Unit to PEMEX, which has arrived this month to the Mexican shores. Upon the utilisation of the GCSU and the receipt of cash payments from PEMEX in FY17, Coastal would start recognising the payments in its FY17 earnings.
As Coastal Contracts Bhd did not secure any OSV orders in the 1Q2016, coupled with the deferment of 30.0%-40.0% of its vessel deliveries from its RM1.0 bln OSV orderbook, the management believes that such developments are inevitable in the OSV subsector amid the prolonged subdued sentiment in the exploration and deep-sea water activities. However, given the well-established and long-term business relationships that Coastal has with its international clients, the company feels confident that no defaults are expected to arise from the aforementioned delays.
Although the management has taken some compression in margins across both its business segments - this is to avoid any excessive delay of the delivery of its vessels and oil and gas assets, which reflects the financial prudence of the management team. The management is also currently in negotiation with PEMEX to soften the minor blow (single digit cut in its oil and gas asset margins) by extending their eight-year contract tenure to possibly a 10-12 year contract to extend the cash flow visibility. Therefore, we believe that this will cushion the reduction in the overall profitability margins moving forward.
Meanwhile, we have also adjusted our orderbook replenishment rate for the OSV segment to RM200.0 mln (from RM300.0 mln previously) for FY17 and FY18 respectively to reflect the poor sentiment across the expectations of multiple oil and gas service providers. For the jack up rig/GCSU segment, our target of RM200.0 mln worth of orderbook replenishment was slashed by 50.0% to RM100.0 mln for FY17 and FY18 respectively.
Valuation and Recommendation
We maintain our HOLD recommendation with a revised target price of RM1.65 (from RM1.85 previously) as Coastal’s near-to-short term earnings visibility is still well underpinned by its sizeable and enviable cumulative orderbook size of approximately RM2.20 bln (RM1.00 bln for its OSV business segment, while the JU GCSU/rig business segment has an orderbook value of RM1.20 bln - with approximately two years of earnings visibility). Our target price is arrived by ascribing a revised target PER of 8.0x, from 9.0x previously (owing to the decline in peers average PER valuation), to our unchanged FY18 EPS estimate of 20.4 sen per share as our earlier estimates have accounted for the decline in profitability margins.
Some of the investment risks include management’s misguidance and inability to monetise its OSV inventories, which would unnecessarily increase its working capital, reduce its cash conversion cycle and restrict its capital deployment opportunities. Also, a prolonged subdued oil price environment will deter O&G companies from expanding further in the offshore exploration and production activities, thus affecting the demand for O&G assets such as OSV and JU rigs.
Source: M+ Online Research - 8 June 2016