• MMHE reported FY16 core net loss of RM1mn (FY15: RM87mn profit), which was below our expectations and consensus. Similar to consensus, we had forecasted core profit of RM50mn. The disappointment was mainly due to steep losses at the offshore segment. Furthermore, we had anticipated recognition of Investment Tax Allowances (ITA) for yard expansion expenditure, which did not come true.

• A one-off write back of a chunky change order for a marine project in 4Q16 failed to uplift profits. In addition, successful cost optimization measures that resulted in significant drop in labour and material costs also failed to stop the bleeding.

• FY16 headline net loss of RM134mn includes asset impairments of RM140mn recognized in 4Q16, coupled with net FX gain of RM8mn. This was MMHE’s maiden net loss since listing in 2011. We believe the impairments were mainly for MMHE’s yard which is expected to be largely vacant from 2Q16 onwards.

• Earnings trends remained the same since 2014, whereby the offshore segment struggled with a depleting orderbook, coupled with high fixed overheads for its yards. Whereas the converse was true for the marine segment, which was MMHE’s saving grace. Accordingly, this was reflected in full utilization of the marine yard for the 3rd consecutive year. In addition, this segment also benefitted from snagging new LNG and FPSO conversion works, which have higher margins.

Key Takeaways from Analyst Briefing

• MMHE has outstanding orderbook of RM1bn, which largely comprises RAPID projects (23%/RM246mn) and marine orders (~RM200mn). The balance consists of various smallish offshore projects. According to management, approximately one-third to one-half of its orderbook (excluding marine orders) will be recognized in FY17. This implies tight earnings visibility unless the group secures sizeable short term projects in the near term. FY16 order replenishment of RM679mn (FY15: RM757mn) was lower, resulting in MMHE’s lowest orderbook since listing.

• Management is downbeat on orderbook recovery, and does not expect demand for offshore structures to pick up until 2018, at the latest. Therefore, in the near-to-medium term, the group is targeting onshore projects, hook-up & commissioning (HUC) and facilities improvement jobs.

• The group’s tenderbook of RM11bn comprises circa 35 projects, including bids submitted in 2016 (~RM450mn) and future tenders in 2018-19 (~RM3.2bn). The bulk of the tenders comprise of floaters (~RM5.5bn for 8 units) and fixed platforms (~RM4bn). Meanwhile, onshore tenders account for circa RM800mn. They are largely for RAPID, including bids for Packages 26 & 28. Timing of project awards and start-work orders remains fluid at this juncture, as oil majors hold back on production

• Utilization (excluding marine segment) for the East Yard fabrication area is currently 50%-60%. It is expected to dip following sail away of the few remaining major projects. This includes Besar-A WHP Jacket & Topside and Baronia CPP Jacket.

• Whereas for the East Yard, it is mainly utilized for onshore RAPID projects. Workshops for the latter are currently running at full capacity. Note that RAPID orders are also executed on-site, in addition to fabrication works done at the East Yard.

• MMHE’s floating dock for OSV repairs at Kemaman, Terengganu, is targeted to commence operations by 1Q17. This facility will enable MMHE to debottleneck capacity at its Pasir Gudang marine yard. In addition, it will also allow MMHE to be nearer to its clients at Malaysia’s East Coast and Gulf of Thailand.

• The group has largely completed its Yard Optimization (YO) program, with cumulative capex spend of RM1.3bn over 2009-12. Recall that MMHE had earlier extended its ITA allowance period up to Sept-19. This implies the group has ample time to complete the remaining outstanding project for its YO program, namely Goliath Crane 2.

• Nevertheless, the caveat for lower capex spend is if the group does not proceed with its planned construction of a 3rd dry dock at the West Yard. This marine facility is expected to cost up to RM600mn with a construction period of up to 24 months.

• MMHE’s balance sheet is healthy currently (net cash: RM650mn), with minimal long term debt of RM20mn, raised from its recent sukuk issuance via private placement. Nevertheless, we are concerned of long term sustainability if capex escalates, given FY16 FCFF deficit of RM221mn.

Impact

• We incorporate FY16 unaudited figures into our earnings forecasts, and introduced FY19F estimates. In addition, we account for higher volume of marine projects, but offset by lower orders for the offshore segment. As a result, we lower our FY16/17/18 forecasts to – RM7mn/RM18mn/RM30mn.

Valuation

• We believe near-term earnings trajectory at MMHE would remain weak, despite improved crude oil price YoY. This is because orderbook recovery will unlikely pick up steam until oil price fundamentals are stable. This includes:- 1) normalization of crude inventory levels that are currently at historical highs, 2) US shale production does not skyrocket, leading to reignition of the 2015-16 price war with Saudi Arabia, 3) OPEC and nonOPEC producers adhere consistently to reduce production quotas.

• Furthermore, profits from any new major projects will likely be back-end loaded. This is given MMHE’s profit recognition method, which is based on the square accounting method for EPCIC projects. Maintain Sell with revised TP of RM0.96 (previous: RM1.03) based on unchanged 0.6x CY17 P/B

Source: TA Research - 8 Feb 2017