Sembcorp Marine: Cancellation of contract – Not a surprise

Cancellation of Petroprod’s contract. Sembcorp Marine (SMM) announced yesterday that its subsidiary, Jurong Shipyard has terminated its contract with Petroprod D&P I Ltd for the construction of a jack-up rig as a result of customer non-payment. We are not surprised over this cancellation. Our only concern is the amount that this jack-up would fetch in an impending sale, especially when the initial contract value of this jack-up is twice the cost of a typical jack-up at that time. Our ground checks indicated that the current value of a typical jack-up has fallen by at least 20% YoY. We are leaving our earnings unchanged as we have already factored in this cancellation in our earnings model. Our target price of S$3.74 based on SOTP valuation remains. Maintain BUY.

We are not overly surprised at this cancellation as SMM has previously hinted that it is not recognising the revenue of this jack-up even though work has commenced. In addition, SMM made an impairment charge of S$7.5m for its 3% stake in Petroprod in the recent 2Q09 results, implying signs of an amicable end to its contract with Petroprod. Our only concern is the amount that this jack-up would fetch in an impending sale. We recall that when this newbuild jack-up was first awarded in May 07, it was touted to be one of the world’s largest jack-up rigs to drill in harsh environment. The cost of this jack-up was a hefty US$442m, which was twice the cost of a typical jack-up then. Through our ground checks, we believe the current cost of a typical jack-up rig has fallen by at least 20% YoY. SMM stated in the press release that there are buyers who have shown interest and is confident that it will be able to receive all amounts it should have earned upon the sale of the jack-up.

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