MISC’s 1QFY18 core profit of RM316m was below our expectation and consensus. Weak performance was mainly due to lower petroleum tanker rate and lower construction revenue recognized for FSO Benchamas 2. Petroleum tanker segment is expected to be weaker yoy and contribution from FSO Benchamas 2 is expected to start in 2H18. We reduce FY18-19 earnings forecast by 28.8% and 35.2% respectively after lowering down petroleum tanker rate assumption and order book replenishment assumptions for heavy engineering segment. We maintain our HOLD rating with lower TP of RM6.81.

Results below expectations. 1Q18 core net profit stood at RM315.5m, below both HLIB and consensus estimates at 14.4% and 14.7% respectively.

Dividend. Declared first interim dividend of 7 sen.

YoY: Core PATAMI decreased 38.2% due to: (i) reduced number of LNG vessels and lower charter rate for the contract renewal of an LNG carrier in October 17; (ii) lower petroleum tanker freight rate; and (iii) lower construction revenue recognized for FSO Benchamas 2 as the project was at tail end in the quarter

QoQ: Core PATAMI decreased 47.5% mainly due to lower petroleum tanker freight rate and lower construction revenue recognized for FSO Benchamas 2.

LNG. LNG shipping market is expected to face a weak spot market during the year due to tonnage overcapacity and large number of long term charter expiries. Nonetheless, most of the group’s LNG carriers are on secured long term charters and hence are shielded from the weak operating environment.

Petroleum. Petroleum tanker market was depressed due to lower tonnage demand on the back of OPEC-led production cuts as well as tonnage oversupply. Performance for this segment in FY18 is expected to be weaker than FY17. However, vessels scrapping activities had been on the rise in 1Q18 as the trend was supported by good steel prices and a weak earnings environment, encouraging owners to retire older tonnages. This should provide some support to a recovery in freight rates in the medium to longer term.

Offshore. FSO Benchamas 2 Project had successfully sailed away and the contribution from this project is expected to start in 2H18. FSO Orkid contract that is expiring in FY19 has been extended for another 10 years.

Heavy Engineering. MMHE (HOLD, TP: RM0.82) continues to suffer from scarcity of new contracts and performance for FY18 is expected to remain under pressure. Marine segment has encountered headwinds as ship owners have deferred their dry docking activities in 1Q18 but is expected to improve during the year.

Forecast. We reduce FY18-19 earnings forecast by 28.8% and 35.2% respectively after lowering down petroleum tanker rate and MMHE order book replenishment assumptions. We adjust our ringgit/ USD assumption to in-house assumption of RM3.90/ USD and introduce our FY20 earnings of RM1.84bn. Earnings headwinds persist with petroleum tanker rates expected to remain depressed this year while its LNG division would face long-term headwinds as its long term charters come to expiry while new LNG contracts are significantly less profitable.

Maintain HOLD, TP: RM6.81. Maintained HOLD with lower SOP- driven TP of RM6.81 (from RM7.61) after earnings forecast adjustment.

Source: Hong Leong Investment Bank Research - 15 May 2018