Earnings  came  in  below  our  estimates  on  the  weak  freight  rate environment.  We  downgrade  to  NEUTRAL  with  a  lower  RNAV-based MYR1.30  TP  (7.1%  downside).  Freight  rate  volatility  will  continue  to persist  on  fading demand and renewed concerns of an oversupply, as reflected by the drop in asset prices. FY14/FY15/FY16 earnings trimmed by 44%/37%/35% as we cut our freight rate assumptions. 

Drowned in weak rates.  Malaysian Bulk’s  earnings  came in  below  our and  consensus  estimates,  reporting  9M14  core  earnings  of  only MYR11.2m  (YTD:  -54.5%)  vs our full-year forecast of  MYR57m.  Of  this, MYR46.9m  (YTD: +5.2%)  alone  was  contributed by  joint-ventures (JVs)and  associates,  notably  PACC  Offshore  (POSH  SP,  NR).  Malaysian Bulk’s  charter  rates  remained  weak  QoQ  (-27.6%)  and  YoY  (-28%). Aside from its weak topline, the added capacity (as hiring days increased by 9.4% YTD and 6.3% QoQ) also incurred upfront cost of deployment in 3Q14.  This  dragged  its  dry  bulk  and  tanker  division  into  losses  in  the quarter under review after briefly turning profitable in 2Q14.  

A tough outlook ahead.  The  current  seasonal pick-up reflected in the Baltic  Dry  Index  in 4Q14 is expected to improve earnings briefly for  the company, but  we caution that the volatility in freight rates will continue to persist and could likely repeat another set of underperformance as it did in  1H14. Dry bulk vessel asset prices are starting to come off from  their peak this year (seen  in mid-2014) on  concerns of oversupply building up again as demolition activities dissipate. This may be on the market being over-optimistic on the dry bulk outlook earlier. Increased Brazil to Chinaexports and higher coal import demand from India (after cancellations of loca l  mining  licenses  created  coal  shortage)  should  still  underpin  the near-term demand for dry bulk shipping activities. 

Forecasts.  FY14/FY15/FY16 earnings trimmed by 44%/37%/35% as we cut  topline  by  8%/16%/16%  respectively  on  the  lower  freight  rate assumptions.  We  now  forecast  for  Malaysian  Bulk’s  FY14/FY15/FY16 dry  bulk  charter  rates  to  increase  by  1%/10%/5%  from  15%/25%/5% earlier respectively. 

Downgrade to NEUTRAL  (from Buy).  As now we expect the shipping division  to  remain in  losses  next  year,  we  therefore  shift  our  valuation methodology from an SOP-based TP of MYR2.00 to RNAV, which would reflect  its  fleet  value  and  the  market  cap  share  it  owns  in  PACC Offshore. Our RNAV-derived TP is MYR1.30 and, with a 7.1% downside, we downgrade our call to NEUTRAL. 

Source: RHB