- We downgrade our call on Malaysia Marine & Heavy Engineering Holdings (MMHE) from HOLD to SELL, slashing our fair value to RM3.30/share (from an earlier RM4.40/share) based on a lower FY14F PE of 20x (rolling forward from 22x FY13F) – at a 10% discount to Kencana Petroleum’s peak of 22x in 2007.

- We have slashed MMHE’s FY13F-FY15F earnings by 25%-28% due to lower new order assumptions of RM2bil-RM4bil vs. RM3bil-RM5bil earlier. This stems from a potential likelihood that much of the new project rollouts which we had earlier anticipated could be deferred to the end of the year, and possibly to FY14F.

- For now, we maintain the group’s FY13F-FY15F EBITDA margins at 10% vs. 9% in FY12. But given the group’s fixed operating overheads and increasing competition from Korean and Chinese yards, we note the possibility of margin compression on MMHE unless the order flow outlook improves significantly.

- The group’s long-delayed Gumusut-Kakap floating production storage (FPS) semi-submersible, which costs RM5.6bil, is on track to be loaded out onto Dockwise’s semi-submersible heavy-lift transportation ship, Blue Marlin this week.

- Together with the expected completion of the RM1.4bil Tapis platforms and conversion of the Cendor floating production storage offloading vessel by the end of this year, there should be ample space at the MMHE West yard, with the only major outstanding contract being the RM2.4bil Malikai tension leg platform scheduled for completion in 3QFY15.

- But the delays in project rollouts domestically and overseas due to the design and engineering complexities could mean that MMHE may not be able to meet its targeted order intake of RM3bil, even though management had earlier indicated that the group was looking at tenders potentially worth RM4bil-RM5bil.

- This means that with a depletion rate of RM3bil annually, we expect MMHE’s order book to slide from RM2.9bil currently to below RM2bil, which translates into a worrisome 0.6x FY12 revenue.

- The stock currently trades at a pricey FY14F PE of 25x – at a 57% premium above the average of 16x for oil & gas stocks with market capitalisation of over RM1bil. For exposure to this sector, we prefer SapuraKencana Petroleum, which has an order book of RM18bil (including the acquisition of Seadrill’s tender rigs) and a consistent earnings delivery record.

Source: AmeSecurities