Samsung Heavy Industries: most promising earnings

By Feynman Jeon

In the second quarter of 2011, shipbuilding stocks languished due to the highlighted order backlog risk, earnings declines and a drought of orders in the wake of the European debt crisis.

In 2012, order growth is returning and shipbuilding stocks are regaining support as the eurozone crisis improves. Samsung Heavy Industries' valuation is reaching higher ground, but there is still room for more. The firm’s stock historically has shown a high price-earnings ratio during the periods of strong order growth.

Daishin Securities suggest a target price of 480,000 won, which equates to 96 percent of the stock’s high in the first quarter of 2011. The key investment points are as follows.

Firstly, orders for LNG carriers and drillship orders are on an upswing. We had forecast that LNG carriers and drillship orders would return around in the second quarter of 2012 after the overhang of previously ordered ships without charter contracts gets cleared.

Charter contracts are signed between the owners of the ships and the hirer for use of the ships for a certain period of time or a voyage. Currently, the ratio of LNG carriers ordered in 2011 to those lacking charter contracts is 26 percent.

We believe conditions are ripe for LNG carriers and drillship orders to return amid liquidity improvement in Europe. Meaningful order growth will not come until the overhang of previously ordered ships still looking for charter contracts gets resolved. Nonetheless, we see the timing in the second quarter of 2012 in view of increasing drilling permits in the Gulf of Mexico and growing demand for drillships in Latin America and West Africa.

Secondly, Samsung Heavy Industries has the best order growth visibility among the “Big Three” including Hyundai Heavy Industries and Daewoo Shipbuilding and Marine Engineering. So far this year, Samsung Heavy Industries has achieved 38 percent of its annual order guidance or $3.8 billion, winning the orders of Inpex’s central

processing facilities (CPF) and two drillships.

In addition, it has seven drillship options, the most popular shipbuilding category of 2012. The company is expected to exercise one of its drillship options for Pacific Drilling on March 2. (Will confirm tomorrow how the exercise of the options went with the analyst)

Thirdly, Samsung Heavy Industries will show the fastest and strongest earnings improvement among the Big Three, helped by the growing profit contribution from drillship orders booked in 2011. The operating profit to sales ratio on 2011 drillship orders is estimated at around 8 percent.

Feynman Jeon is a shipbuilding analyst at Daishin Securities.