Published August 15, 2008

A good second quarter for rig-building giants

By VINCENT WEE
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BASED on the numbers, the second-quarter results season ended on a high note for the three biggest locally listed players in the rig-building market. Keppel Offshore and Marine (KOM) parent Keppel Corp, Sembcorp Marine (Sembmarine) and Cosco Corp (Singapore) all reported solid revenue and earnings.

At a macro level, the riskiest undercurrent threatening the rig giants is cost inflation.

Keppel, Sembmarine and Cosco posted 16 per cent, 51 per cent and 60 per cent year-on-year earnings increases to $299.3 million, $128.3 million and $128.7 million respectively. KOM's $117 million gain was a 21 per cent increase over the previous year.

Revenue growth was also strong for two of the three offshore and marine (O&M) players. Sembmarine's turnover rose by a third to $1.39 billion and Cosco's doubled to $1.05 billion. Keppel's revenue rose just 8 per cent to $2.64 billion, although as an absolute figure this was about double that of the other two players. Stripped out, KOM's $1.8 billion revenue was almost flat versus the $1.7 billion in the previous corresponding period.

Order flow also remains good. Keppel reported a $13 billion net order book as at end-June with deliveries stretching out to 2012. Sembmarine said net orders stand at $9.6 billion with deliveries also extending till 2012. Cosco, meanwhile, said it has US$7.4 billion in orders for deliveries up to 2011.

But lurking just below the surface are several undercurrents that could drag down the high-flying rig giants. At a macro level, the riskiest of these is cost inflation. While the managements of all three groups tried to address these concerns to some degree, real guidance on margin and profit impact down the track was lacking.

Keppel simply pointed to its improved operating margins of 10 per cent, which it expected to maintain in the second half and noted that many of the jobs in its order pipeline are based on their proprietary designs which 'provide us with greater flexibility to meet customers' requirements, thereby enabling us to optimise on our yards' facility and manage tight supply chains'.

Sembmarine management said it locks in its steel requirements as soon as a contract is signed and the hedged price of the key raw material is factored into the contract price right from the outset. A key question from analysts at the results briefing that was not satisfactorily answered, however, was how they were able to hedge for orders meant to be delivered as far as four years forward.

Cosco, meanwhile, came clean with the most frank revelation of its year ahead. The China-based group acknowledged the 'unrelenting inflationary pressures and weak US dollar' it faces and revealed that it has hedged its steel needs only till the first half of next year. Cosco proposes to boost margins by 'keeping a tight grip on costs through operational efficiencies' and also factoring rising labour and steel costs in its pricing for future projects as well as diversifying its forex exposure by quoting future contracts in either yuan or euros as well.

The other question on the tip of all tongues was that of order cancellations in the light of recent cancellations at the big Korean yards. All three groups resolutely denied any problems on this account, universally citing their client base of 'reputable' companies.

Earlier reports have, however, said that the cancellation of the eight boxship order at the world's third-largest shipyard - Daewoo Shipbuilding and Marine Engineering - was from German container line company NSB.

Moving on to the individual level, each of the groups has niggling issues as well. Keppel has remained relatively the most trouble-free but a sudden eruption of client-related problems potentially worth about 200 million euros (S$419 million) at its Keppel Verolme yard in Holland has now cast a shadow over the second half.

The fate of a 140 million euro floating heavy lifter project for Norway's MPU Offshore Lift remains unknown after the company filed for bankruptcy in early July while just the week before this, Keppel announced a 65.4 million euro variation order dispute with Fred Olsen Energy unit Blackford Dolphin.

Sembmarine, meanwhile, continues to have the ongoing dispute with BNP Paribas over unauthorised transactions at its Jurong Shipyard unit hanging over its head. BNP's claim for US$50.7 million has not been recognised on the books and is disclosed as a contingent liability.

Cosco, already reeling from worries about further order cancellations after disclosing a US$202 million rig order cancellation from Red Flag, did itself no favours by announcing a sudden leadership change soon after releasing its results. Despite reassurances from management, concerns remain about both the motivation behind the change of leadership from Cosco stalwart Ji Hai Sheng to shipping line veteran Jiang Lijun and Mr Jiang's ability to hit the ground running on the shipyard operations. He was CEO of Cosco Shipping for six years before his current appointment.

Yesterday, Keppel stock closed 22 cents higher at $10.34, Sembmarine rose 14 cents to $3.84, while Cosco gained three cents to $2.35.