Swiber Holdings

On the road

We hosted a non-deal road show in Hong Kong for Swiber's management, during

which management addressed common investor concerns about the company.

We expect earnings to improve, reflecting order book growth, starting 2H10. We

maintain our Buy rating and S$1.40 target price.

 

Investors concerns regarding execution may be excessive, in our view

Investors in general were concerned that while Swiber’s shares appear undervalued, the

company may not deliver on earnings despite the increase in order book since 3Q09. We

believe Swiber can, since revenue typically lags new orders by a year. Swiber's historical

execution issues came from delays in new vessel deliveries from shipyards struggling with

excess demand – this is no longer the case after the 2008 financial crisis. In any case Swiber

has completed fleet expansion for the medium term, according to management.

2H10 guidance suggests earnings will start to reflect order growth

Management expects US$280m in revenue to be recognised in 2H10 from the US$915m

order book, which implies 43% yoy top-line growth. Earnings growth is likely to be higher due

to operating leverage – over 150% yoy, given the company’s GP and NP margin guidance of

15-20% and 10%+, respectively.

Swiber currently bidding for numerous projects worth US$5bn combined

Swiber has submitted bids in India, Vietnam, Indonesia, Myanmar and Saudi Arabia. The

company was invited to, and qualified for, the Saudi Aramco fabrication bid (US$3bn+), and

it expects to announce several contract wins in 4Q10. Assuming the historical hit rate of 15-

20% and management’s guidance that around 70% of the order amount will be booked by

Swiber, we estimate its new order flow over the next 12 months could be US$525m-700m,

which is higher than the US$400m pa it achieved in 2007-08.

Recent weakness offers more attractive buying opportunity

We maintain our Buy rating and DCF-based target price of S$1.40 (40% potential upside).

Trading at 9x 2011F earnings and 1.2x PB, we calculate ROE of 14% and yoy EPS growth of

70%. Our 2010F EPS is 17% below Bloomberg consensus, given our more conservative OP

margin assumption. At the current market value, the implied annual order flow is around

US$195m, significantly less than the US$400m pa Swiber achieved in 2007-08.

 

Key issues

Below are some of the key issues addressed by management.

Swiber has US$5bn worth of tenders currently

Swiber is actively participating in numerous bids, which total US$5bn in potential orders to be

reflected in revenue across three to four years. There are two to three bids in the UAE and Saudi

Arabia, around five in India, six in Indonesia and one in Myanmar. Saudi Aramco's Wasit gas field

development project has a value of around US$3bn for the offshore portion. Bid submission

period is expected to be October/November, with awards tentatively to be announced during

1Q11. Swiber-Rawabi is bidding for the entire offshore work scope (with five other bidders), but

will outsource fabrication at a local yard.

Hit rate on projects is around 15-20%

Hit rates differ by region. In Brunei, for example, Swiber is the resident contractor and wins almost

100% of projects commissioned. Recurring orders of US$80m-100m per annum from Brunei Shell

are not reflected in the current order book of US$915m. A blended average historical hit rate is

around 15-20%. In India, the company bid on five projects in 2009 and won three, so the hit rate

was much higher.

Swiber’s competitive edge includes a good track record and experienced management

A good track record in South-east Asia helps when bidding for projects, as does its young fleet

(four years average age). Swiber has good relationships with SE Asian oil majors and India's

ONGC. The current CEO of Swiber Offshore Construction Services (SOCS), Mr Nitish Gupta, is

an Indian national and formerly from JR McDermott, Swiber's main competitor globally. Swiber

recently recruited another member of management, Mr. Edward Gedeon from JR McDermott – he

is now the President of SOCS and has 37 years of industry experience. Other competitors include

Saipem, Hyundai Heavy and Nippon Steel. The latter two are mainly fabrication specialists

(Swiber intends to continue outsourcing fabrication work, which is best done at a local yard).

Swiber will also maintain its JV strategy in several regions – Saudi, Thai, and Indonesian

governments prefer companies with local partners.

Swiber will focus on expanding work scope in shallow waters for the next three to five

years

Swiber will continue to focus on shallow water (up to 300ft) opportunities in South-east Asia, India

and the Middle East for three to five years. The company will concentrate on expanding its work

scope to include more engineering and procurement work, as opposed to simple transportation

and installation jobs. Although engineering and procurement have lower GP margins (10-30% and

3-8%, respectively), contract amounts are large and will support revenue/earnings growth.

Transportation and installation project GP margin is around 20-30%. Swiber is moving towards

this ‘one-stop shop’ strategy partly because it is expanding into India and the Middle East, where

the oil majors who have development licences also operate field development.

Swiber expects revenue of US$280m in 2H10

Management is guiding for 15-20% GP margin, 10% net margin. 2H10 revenue will be around

US$280m. Earnings will be back-heavy in 2010, unlike 2009. 4Q10 will see revenue contribution

from four projects in India, totalling about US$150m vs only one project in 4Q09, which leads to a

quarterly revenue of US$90m.

Indian projects do not have high default risk, contrary to concerns

Some of Swiber's competitors have tried to expand contracted work scope and have faced

bureaucratic red-tape when trying to get paid. Swiber has not had any experience of nonpayment.

Swiber’s fleet expansion is complete and utilisation is at 80%

Swiber has completed vessel addition for the next two years at least. It currently operates 26

directly owned vessels (book value is around US$200m), 15 vessels on sales and lease-back

agreements (US$500m in value), seven JV vessels, and one long-term charter. Current utilisation

is 80%, which is ideal. During 2007-08 (pre-financial crisis), Swiber saw vessel delivery delays,

which hurt project bids and executions, but this is no longer a risk, given the excess capacity at

yards.

Swiber is planning for deepwater projects in the long term

Swiber has set up its subsea subsidiary for this reason – to diversify into deepwater projects.

Kreuz has about 200 divers and about 50% of its US$60m-70m revenue is generated from

Swiber's projects currently.

Sales and lease back agreements provide favourable vessel financing conditions

Swiber pays 15-16% interest, which is still favourable versus spot rental rates. Of course, Swiber

could buy these vessels outright, but the balance sheet would be constrained.

Receivables days are 90 days according to contracts

Receivable days are about 90 days per project. However, timing differences make reported days

appear longer.

Swiber has US$300m in debt, with no plan for equity financing, currently

Swiber has US$300m in debt, with a third of this in the form of convertible bonds (five-year

maturity, 5% coupon, conversion price S$1.14). Swiber wants the CBs to be converted to lower

gearing. However, Swiber prefers debt raising to rights issues currently, as banks are offering

favourable rates. Current gearing is under 1x.

Swiber expects order win announcements to increase over the next 12 months

Contract wins, especially those with greater visibility and longer durations, should increase

investor confidence.

Swiber considers shallow water E&P investments to be viable at oil prices above

US$60/bbl

Oil prices above US$60-70/bbl for shallow water projects; above US$80/bbl for deepwater

projects would be sufficient.