Sembcorp Marine: Offers better risk/reward now

Upgrade to BUY. The risk/reward is more attractive now on potential price catalysts in 3Q09, and we upgrade SMM to BUY. Our fair value is raised to S$3.25, using mid-cycle valuation, and rolling forward to blended FY09/10 EPS on improved margin visibility.

Price catalysts in 3Q09 We see the on-schedule receipts of the next milestone payments for Petroprod's jackup rig (before mid-July 2009), and Seadrill's semi-submersible rig (estimated by end 3Q09) as catalysts for the eventual removal of our S$1.1b order cancellation assumption. This could potentially add >5% to our fair value for SMM. SMM's confidence on contracts execution in 1H09 has also mitigated our concerns on margin pressure for variation orders, we have raised our EBIT margin assumptions for FY09 and FY10, to 9.8% and 9.9% respectively and expect a good set of 2Q09 results to be another price catalyst.

Expect new order wins in 2H09, our assumption unchanged at S$3b. We caution investors against expectations that any SMM's new order win is the start of an uptrend. We maintain our view that an uptrend in new order wins require : 1) An easing of credit crunch through a reduction in credit spread and equity funding requirement, and 2) A lowering of still high construction costs. These pre-conditions are currently not met yet.

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CSE Global - a Singapore-listed industrial systems integrator for the oil & gas

CSE Global is leverage play on production cycle which has more visibility and stability. Our discussion with management suggest tenders and order enquiries continue to be healthy despite oil price volatility. CSE Global’s proven execution ability, order book of S$343mn, and ability to maintain margins during 4Q08/1Q09 suggests downside to earnings is limited.

We maintain Buy, but trim earnings by 21-31% due to lower than expected revenue growth since our last update. We raise target price to S$0.75 from S$0.55, based on 8.5x FY10E P/E (raised from 5.5x FY09E PE) as well as roll over to FY10E earnings multiple. Our 8.5x P/E is based on 17% discount to industry PE of ~10x, justified by CSE’s slower EPS growth vs. peers and lower share trading liquidity.

Our target price of S$0.75 (8.5x FY10E P/E) is based on a 17% discount to the industry's P/E of ~10x given CSE's slower EPS growth vs. peers and lower share trading liquidity. We believe the market has yet to fully appreciate CSE's strong business model. CSE does not have direct comparables in Singapore or in the region, and the majority of the oil/gas-related firms now trade at far higher multiples despite lower margins. We use P/E because the share price is closely correlated with earnings growth.

KS Energy - Adjusting for risk and warrants

KS Energy (KSE) announced on 4 June 2009 that it was offering warrants on a one-for-four basis at S$0.20/each. The warrants have a S$1.40 conversion strike price and a conversion period from 7-24 months after issuance.

In our opinion, the company’s issuance of warrants is an unusual choice for raising capital, as 1) it will not immediately raise a significant amount of capital (S$16m-18m in net proceeds from the warrant issuance), and 2) further capital-raising from warrant conversions is uncertain given that the warrants are ‘out of the money’. In our opinion, the warrant issuance is to improve the company’s working-capital liquidity, rather than prepare the balance sheet ahead of any imminent corporate action (eg, an asset acquisition).

We have made some modest adjustments to our FY09-13 balance-sheet and cash-flow assumptions, but no changes to our FY09-13 net earnings forecasts. Our EPS forecasts are also unchanged, as the warrants are currently anti-dilutive. Valuation

We have raised our six-month DCF-derived target price to S$0.92 from S$0.72, due mainly to a reduction in the assumed WACC, to 12.4% from 16.0%. The reduced WACC reflects investors’ shift away from the extreme risk-aversion that was evident from equity valuations in late-2008.Catalysts and action

KSE’s stock has risen significantly since the 28 April 2009 price of S$0.715 on the back of higher crude-oil prices and equity-market levels. However, we think that the company’s fundamentals should continue to be challenged from 2009-11 due to downcycles in jack-up and parts-distribution industries, despite the rebound in crude-oil prices to more than US$70/bbl from US$50/bbl as at 28 April 2009.

From an earnings perspective, KSE is theoretically ex-growth in FY09 and FY10 since it does not have a significant amount of equipment up for new contracts until late 2010. The company may see all four of its jack-ups come up for new contracts in late-2010 and 2011, making the state of the jack-up market very important. We expect jack-up day-rates to remain soft from 2010-11 due to a significant overhang of idle global jack-up capacity.

According to Daiwa’s view, the Straits Times Index and crude-oil prices are both currently more-than-fairly-valued and are at risk of a price correction over the next six months. We expect KSE’s share price to underperform the Straits Times Index if stock indices and/or crude-oil prices decline.