Coastal Contracts’ core earnings for 1H15 of MYR91.5m were in line with our FY15 expectations (46%) but lower than that of the consensus,at 41%. We downgrade the stock to NEUTRAL from Buy, with a SOPbased TP of MYR1.89 (from MYR4.30, 8.9% upside). We believe the current slowdown of the oil & gas industry could translate into slower sales and orders of new vessels going ahead.

Core earnings of MYR91.5m. Coastal Contract reported 1H15 revenue of MYR515m, down 26.4% YoY. On a segmental basis, revenue from shipbuilding came in at MYR511.9m (-26.4% YoY), due to the lower number of vessels delivered. Its vessel chartering division posted a 1H15 revenue of MYR4.3m (+11.7% YoY), coming from a short-term bareboat charter contract. Net profit came in at MYR100.7m. Stripping off forex gains, it booked a core profit of MYR91.5m, making up 46% of our FY15 assumption while meeting 41% of that of the consensus.

Outlook. Coastal Contract’s first jack up gas compression unit (JUGCU) is expected to be completed in 3Q1 5 and earnings contribution may start to kick in 1H15. The charter contract is worth USD370m for a firm period of 12 years and will be chartered out to Petroleos Mexicanos (Pemex). At its shipbuilding unit, Coastal Contracts has MYR1.1bn worth of vessels contracted to clients, with another MYR1.1bn estimated worth of build-to-stock vessels. We expect orders and sales of new vessels to slow down in the current oil & gas industry downturn.

Downgrade to NEUTRAL (from Buy) with a TP of MYR1.89. We cut our earnings for FY15/FY16/FY17 by 2%/9%/11% as we believe sales and orders of new vessels could slow down in the next few years. We also revise charter rate assumptions of the JUGCU downwards as we update our model. Although the new JUGCU will contribute to numbersin 2016, we believe the headwinds from the slower sales of new vessels to be substantial for Coastal Contracts. As such, we downgrade the counter to a NEUTRAL with a lower TP of MYR1.89 (from MYR4.30, 8.9% upside) as we also remove the contribution from its second JU rig from our valuation.

Valuation. We derive our SOP-based TP of MYR1.89 by pegging the shipbuilding business to 5x P/E while the JUGCU is valued on a DCF basis. We believe pegging the shipbuilding business to 5x P/E is justified, given the current headwinds in the oil & gas industry – which we believe could translate into slower orders for new vessels.