We came away from the 1Q15 briefing feeling NEUTRAL on more muted nearterm industry outlook as guided by the management. OSV vessel market looks bleaker in the near-term with major oil companies delaying vessel deliveries to avoid asset holding cost. However, we took comfort that COASTAL still possesses RM1.1b of firm vessel order spanning 1-2 years, providing earnings visibility for the group. It has also taken advantage of the current slowdown in OSV industry by expanding into the Mexican and Latin American OSV shipbuilding markets due to favourable vessel pricing. OSV vessels there are typically more expensive compared to the local market due to higher labour costs in the region. Its 1st Gas Compression Unit to be chartered on bareboat basis to PEMEX are slated for commissioning in August this year, which is largely in line with our expectations and mobilisation costs are borne by the charterer. While it appears to be challenging in the near-term, we still like the company given its robust balance sheet and prudent business management. Maintain OUTPERFORM at TP of RM3.47 pegged to 9.x CY16 PER.

OSV industry outlook muted. The mood in the OSV industry has turned bleaker in recent months with several clients delaying vessel deliveries as they opted to hold back longer to obtain more clarity on the market direction under the current oil price scenario. This will result in slower revenue recognition for shipbuilders due to delays. However, COASTAL will not reduce their vessel selling prices to induce higher sales to avoiding substantial erosion in margins. We gather that local major shipbuilders will be more inclined to hold out for more favourable vessel pricing despite potential slowdown in sales to avoid disrupting the balance of the local OSV shipbuilding market.

RM2.2b worth of vessels under construction. We learnt that COASTAL currently has RM2.1b worth of OSV vessels under construction with RM1.1b (52.0%) contracted to clients. On the other hand, the company has built-to-stock vessels worth RM1.0b to cater for the demand of OSV vessels whenever need arises. However, due to more uncertain outlook of the OSV industry in lieu of volatility in oil prices, the RM1.1b orderbook could be converted into firm orders up to 2017. Albeit the near-term vessel order replenishment might be slow, the group’s earnings visibility remains intact with substantial firm orderbook in hand.

To tap into Mexican and Latin American markets. The company also reiterates its intention to expand into the Mexican and South American markets due to better OSV vessel pricing there in comparison to the Malaysian market probably due to higher labour cost. To put that into perspective, vessels build in Malaysia would still be cheaper even after including transportation cost of vessels into the region. In Jan 2015, it has incorporated a subsidiary in Mexico to pursue long-term opportunities and secured maiden orders from Mexico for 2 OSVs worth RM197.0m. We concur with its strategy to tap into these markets given the significant long-term growth potential as more Mexican and South American clients switch to COASTAL from other local players there.

Diversification into O&G asset ownership on track. The group’s 1st Gas Compression Unit (GCSU) is still on track with 80.0% of its fabrication works completed. The asset is scheduled to be commissioned in August this year, which is largely in line with our earlier expectations with assumptions of 4-month contribution in our FY15 forecast. Initial costs are minimal to the group as PEMEX, which is the main asset operators, will assume the mobilisation cost of GCSU. New opportunities have surfaced for its offshore asset ownership businesses with several tenders believed to be put out by oil companies in the Mexico and Latin American region according to market intelligence while the success of the upcoming GCSU contract will pave the way for the group for further penetration into the market.

Maintain OUTPERFORM. We do not deny the fact that it could be challenging for the company in the medium-term due to heightened cautiousness in spending by major oil companies amid weak oil prices. However, we believe it will be able to ride out the storm given its robust balance sheet (net cash as of FY14) and prudent business model with relatively low vessel inventory holding costs. With sale of 1st Jack-Up unit done in 1H15 and partial contribution from its Gas Compression unit, we believe there is ample buffer for the company to manage the volatility of near-term shipbuilding earnings. Hence, we leave our FY15/16E earnings unchanged at this juncture. TP is maintained at RM3.47 pegged to unchanged 9.0x CY16 PER with OUTPERFORM call maintained, which is in line with small-mid cap O&G valuation range under the current oil price scenario.

Source: Kenanga Research - 29 May 2015