Neptune Orient Lines NOL - Downgrade to Hold

Recent surge in share price. The share price has risen by about 20% since our last report on 2 September 2009. We would like to highlight that NOL is still expected to post a full year loss of US$633m in FY2009F. Although we are anticipating a recovery in 2010, it is projected to report a loss of US$131m in FY2010F. It is only in FY2011F that we expect a profit of US$208m.

Dowgrade from Buy to Hold with fair value at S$2.12. We have a fair value of S$2.12 for the stock. This works out to 1.2 times book value for FY2009F. We derive our fair value based on expectations that NOL will start recovering from the downturn in FY2010F. Due to limited upside of 11.6% to our target price, we downgrade the stock from buy to hold.

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Neptune Orient Lines - is expected to be a beneficiary of the recovery

NOL reported a smaller loss of US$146m in 2Q09 from US$244m in 1Q09. It mentioned that the performance for 3Q09 would be better than 2Q09 due to seasonal demand. Manufacturers would start shipping and manufacturing goods in 3Q09 in preparation for the Christmas season. We forecast the loss to narrow further to US$123m in 3Q09. Despite the improvement, NOL is expected to report a full year loss of US$633m in FY2009F. As the global economy continues to recover, it is likely to report a lower loss of US$131m in FY2010F and return to profit of US$208m in FY2011F.

From the list, we note that the median P/E and P/B for the industry are 8.63 and 0.91 respectively. NOL is currently valued at 19.20 times P/E and 0.65 time P/B. Our recommendation. NOL is expected to be a beneficiary of the recovery of the global economy. Although it is currently reporting a loss, it is financially strong as it has the resources to emerge stronger from the crisis. In fact, its net debt to equity ratio is 0.0 for FY2009F. We have a buy recommendation and fair value is S$2.12, which is 1.2 times book value for FY2009F.

Neptune Orient Lines - Period 7: Volume and Freight Rate Deterioration Have Bottomed

Quick Comment: NOL’s Period 7 volumes improved 9% sequentially from Period 6 while freight rates increased a marginal 1% from Period 6. This reaffirms our view that container shipping volumes and freight rates could have bottomed and are poised for a mild recovery in the Jul-Oct peak season. This is because rates are unsustainable at below-cash breakeven and container volumes could see easier comparisons with 2H08 and gradual improvement in consumer demand. Conversely, we do not expect any sharp improvement in freight rates as laid-up capacity (~10% of global fleet capacity) will be reactivated should this occur.

What’s New: In Period 7 (June 27 to July 24, 2009), NOL reported an 11% YoY volume decline, reflecting lower volume deterioration than in Period 6 (down 14% vs. 1H09 decline of 23%), which implies 9% MoM volume improvement for Period 7 vs. Period 6. Period 7 average freight rates declined 28% YoY to US$2,219/ FEU, but on a sequential basis, rates increased 1% in Period 7 from Period 6. We think that the lower volume deterioration in Period 7 reflects a slow recovery in consumer demand and inventory restocking during the peak season. The stabilization in freight rate deterioration can be attributed to improving Asia to Europe freight rates (rate hikes for July were largely successful), offset by the commencement of annual Transpacific contracts with rates down sharply from prior-year contracts, in our view. The 11% volume and 28% freight rate deterioration resulted in a revenue contraction of 36% for Period 7.

Investment thesis: We believe NOL is well positioned to weather the container shipping downturn thanks to a strong balance sheet and experienced management team. Conversely, we believe that current valuation of 1.2x 2010E P/BV, above the historical mean, is rich and factors in the bottoming of rates and volumes.

NOL - Jun/Jul Container Monitor: Volume decline shrinks markedly but rates still dismal

Volumes recover markedly in period 7 (Jun 27 – Jul 24): Container shipping volumes fell 11% y/y to 187,400 FEUs in period 7 (July), a marked improvement from period 6 (June) and period 5 (May), where volumes fell 14% and 21% y/y respectively. The average volumes shipped per day in period 7 increased by 9% m/m and 18% over May. In the past 3 months, we saw the y/y decline in container volumes shrink by 5ppts per month on average which is positive for the sector.

However, rates are still down substantially and below breakeven: Average revenue per FEU (in US$) fell 28% y/y to $2,219 in period 7, slightly better (+1ppt) than period 6 but still dismal. Freight rates are still at a low compared to the previous year’s levels, despite a concerted industry effort to raise rates. Although the market tends to react positively to every rate hike announcement and we believe the operating outlook is getting better, it is uncertain how much can be effectively passed through and when the liners can return to profitability as exporters and freight forwarders remain resistant. Moreover, once freight rates move up to more sustainable levels, the ships laying idle (which constitute c.10% of global container capacity) will be back online plus newbuild deliveries will also exacerbate the oversupply.

Top line recovering slowly: We estimate container revenues fell 36% y/y in period 7, a 3ppts improvement from the previous 3 months, where revenues fell 39% y/y. Year to date, container revenues fell 38% y/y.

Neptune Orient Lines Ltd: Losses in 2Q09 carried a silver lining

2Q09 losses not a surprise. Neptune Orient Lines Ltd (NOL) posted a 37.9% YoY decline in 2Q09 revenue to US$1.4b. Operating income swung into the red at US$122.3m vs. a profit of US$92.3m a year ago, while net losses came in at US$146.2m as compared to a US$75.8m profit a year ago. On a sequential basis, revenue contracted by 10.0%, while net losses narrowed from US$244.6m in 1Q09. NOL's performance was consistent with its guidance for a bleak outlook. Management reiterated that FY09 will be a loss-making year. No dividends were declared.

Deterioration across the board. All three business segments posted weaker YoY results. NOL's main revenue contributor, the Container Shipping segment, turned in operating losses of US$142m (vs. a US$59m profit a year ago), while the Logistics and Terminals segments remained mildly in the black. Container shipping revenues fell by 38.5% YoY to US$1.2b as slower global trade flow crimped freight rates and volumes. NOL, along with its industry peers, has been trying to implement rate hikes, but overcapacity, especially along the Asia / Middle East route, has posed a challenge to these efforts.

The silver lining. We are mildly sanguine about the outlook for 3Q09, a seasonally strong quarter. NOL highlighted that the operating environment showed signs of stabilisation in the later stages of 1H09; volumes have bottomed out and demand has somewhat improved, possibly due to inventory restocking. While it appears that the worst could be over, management cautioned that visibility remains low. It remains premature to determine if the improvement seen so far can be sustained. Meantime, management remains committed to cost containment in the face of stilldeclining revenue.

Well positioned to endure turbulence. We reiterate our view it remains too early to call for a recovery in the containerships industry. Muted global trade, persistent unemployment and industry oversupply continue to dampen hopes of a recovery. Nevertheless, NOL is poised to weather the downturn given its strong financial position. With the US$1b proceeds raised from its recent rights issue, the group is ready to capitalize on investment opportunities that may arise. We believe that NOL could be on the lookout for distressed acquisition targets that can boost its market share upon economic recovery. We roll over our valuations to blended FY09/10 NTA and remove our 20% discount in light of improving outlook, bringing our fair value estimate to S$1.68 (previously S$1.39). Maintain HOLD.

Neptune Orient Lines - Survivor of Deep Container Shipping Downturn, but Valuations Expensive

Downgrade NOL to Underweight from Equal-weight. We believe NOL is well positioned to weather the container shipping downturn thanks to a strong balance sheet (post rights issue) and experienced management team. Conversely, we believe that current valuations at above historical means and higher-than-industry average P/BV of 1.0x 2010E are factored into nearterm positives for the stock. We believe that 2H09-2010 earnings could disappoint as container shipping fundamentals remain extremely challenging.

Where we differ: Our 2009-10 earnings estimates are below than consensus expectations as we believe that the market is underestimating the magnitude of the deterioration in freight rates and the extent of losses for 2009-10. Fundamentals for the container shipping industry remain challenging, in our view, owing to a significant oversupply of ships and laid-up fleet capacity.

What’s next: Preliminary July port data to be released in early August, which are likely to show a seasonal rebound, and further announcements of peak season rate hikes could be near-term upside catalysts for NOL. We recommend investors sell into any potential rally, as we believe that the losses NOL is likely to report for 2H09 and 2010 are likely to disappoint. In addition, given the YTD price rally, should macroeconomic sentiment turn negative, NOL stock could be primed for a downside correction.

NOL - Volumes Up, Rates Down

Mixed signals: where to from here? — Volumes improved sequentially (-14% YoY in Jun-09 vs. -21% YoY in May-09) but rates worsened sequentially (-29% YoY in Jun-09 vs. -23% YoY in May-09) – we believe the latter could be due to erosion of rate hikes implemented in Mar/Apr-09. Recent statement by TSA on a “voluntary guideline” to raise Asia-US rates by US$500/TEU provides hope for a short-term reversal in rate decline in the coming months.

Bulk hot, containers cold — Our PRC Shipping analyst Ally Ma prefers bulk over container players as supply-demand dynamics are improving for dry bulk but not for container players (see her report, PRC Shipping – Bulk Hot, Containers Cold). While liners may have seen the worst, a rapid recovery is not on the cards due to shaky global consumption and a large inventory overhang.

News flow direction — We maintain our view that signals in the container shipping industry will be mixed with a positive bias: rate hikes and seasonal volume upticks may bring short-term cheer to the market and temporarily support valuations – however, we think any significant hike in rates is likely to be eroded due to vessel over-capacity. Liners may make repeated attempts to jump-start rates from “unsustainably low” levels.

M&A angle differentiates NOL from other liners — We maintain our Buy/High Risk (1H) recommendation mainly due to NOL’s ability to leverage its strong balance sheet position to acquire vessels or networks. NOL now trades below its historical P/B valuation; we maintain our S$2.00 target price based on 1.3x FY09E P/B, similar to levels seen in 2002 recovery.

Key highlights from NOL

With about US$1b proceeds from rights issue, NOL is looking for opportunities to purchase distressed assets after paying down part of its debts.

Management guided a time frame of at least two years for new asset acquisitions (WACC is approx 9%).

Sharing of slots with its alliance partners have helped to remove some capacity, raise utilization rates and reduce costs.

Demand is picking up due to seasonality factors rather than real recovery.

Funding situations have not improved.

NOL is cash profitable but not earnings positive.

Losses are expected for 2009.

Company has managed costs by reducing 10% of headcounts globally.

Thirteen vessels will be delivered in 2009 and five in 2010.

NOL has delayed some new orders by six to two-and-half years.

Expect plenty of tonnage to hit the waters in 2009-2010 with approximate 10-11% of supply coming on board this year.

The trough valuation for the container shipping sector is about 0.4x P/B and the long term average is about 1.3x P/B. Based on consensus forecasts, NOL is currently trading at 0.9x 2009 and 1.1x 2010 P/B.

Neptune Orient Lines Ltd: Still in the red

Deeper in the red. Neptune Orient Lines Ltd (NOL) turned in a poor set of 1Q09 results. The group reported a net loss of US$244.6m vs. a US$120.7m profit a year ago. 1Q09 losses were wider than the US$148.5m loss incurred in 4Q08. Revenue slumped 35.9% YoY and 32.6% QoQ to US$1.5b. Key culprits for NOL's weak performance were the slump in global trade flows coupled with deteriorating freight rates across all trade lanes. A reduction in non-recurring gains from asset disposals (US$3m in 1Q09 vs. US$18m in 1Q08) magnified the slump in earnings. The group's poor performance led to a net operating cash outflow of US$139.4m in 1Q09 as compared to an inflow of US$212.9m a year ago.

Revenue declined across all segments. Container Shipping, the group's key revenue contributor, saw revenue slide 35.9% YoY to US$1.3b on the back of depressed freight rates and lower demand for container freight. Average revenue per FEU (Forty-foot Equivalent Unit) has fallen 16% YTD owing to lower bunker recovery and core freight rates, while volume handled has slumped 27% as a result of the global economic downturn. Utilisation of its container shipping network continued heading south despite the group's capacity reduction efforts, coming in at just 80% in 1Q09 as compared to 95% in 1Q08 and 83% in 4Q08 (exhibit 1). This brings the group's utilisation rate down to levels seen during the previous crisis in 2002. The Logistics and Terminals segments similarly suffered revenue contraction as a result of lower throughput volumes. Revenue from Logistics declined 33.6% YoY to US$241m while that from Terminals fell 22.8% to US$112m.

Not out of the woods yet. While NOL has been taking proactive measures to contain costs and improve asset utilisation, these have not been sufficient to mitigate the group's rapid revenue decline. Management has put in place cost-reduction initiatives that could result in US$550m of cost savings for the year, and we expect these to take some pressure off the group's earnings in subsequent quarters. Notwithstanding this, NOL expects operating conditions to remain challenging for the year ahead, and has reiterated its projection of full year losses for FY09, which we had already taken account into our estimates. NOL's revival hinges on the recovery of global trade flows, which remains uncertain at this juncture. We are keeping our estimates and SELL rating unchanged. Our fair value estimate remains at S$0.815.

Neptune Orient Lines NOL - Bouncing along the bottom

NOL has released monthly operating data for the period from 2nd May to 29th May. Container shipping volumes were down -21% yoy (up 1% MoM) compared to a similar level of decline (-22% yoy) in April. Year-to-date volumes are down -25% versus our full year 2009 volume expectation of -9%. Average freight rate was down -23% yoy (flat MoM) and year-to-date average freight rate is down -18% versus our full year 2009 forecast of -16%.

Our latest UBS Container Freight Rate index (CFRI) indicates that Transpacific and Asia-Europe rates declines have sequentially worsened in the first three weeks of June compared to May. In the context of rising bunker prices and liners’ relative inability in mitigating rising fuel costs from surcharges, we believe current rates on both of the major trade lanes are well below cash costs for most (if not all) carriers.

Maritime consultant Drewry has recently downgraded global container volumes forecasts for 2009 to -10.3% (from -5.3%) while UBS is forecasting a -6% decline in volumes for 2009 and an effective supply growth (after delays, cancellations and scrapping) of 15%. We remain our view that supply/demand for the container industry will not return to balance until 2011.

Our PT is based on VCAM, UBS’s proprietary cash-flow based valuation tool (8% WACC). We are still in the process of revisiting our forecasts post rights issue.

NOL - May 2009 Operational Update – Downside Risks are Limited

May-09 data — NOL’s May-09 revenue/TEU and shipping volumes were flat MoM and -23%/-21% YoY, the latter due to base effects. Mid-year seasonality will likely lift volumes slightly in coming months while rates may be forcibly raised from current “unsustainably low” levels. While the longevity of these positive data points is debatable, we re-iterate our view that freight rates and shipping volumes face limited downside risks from current levels.

Industry financing woes have eased — Recent improvement in equity and credit markets provides an opportunity for shipping companies to plug their funding gaps at a lower cost. Concurrently, better access to liquidity will also allow financially stronger players to acquire assets from their more distressed counterparts. The revival of the sale and purchase market may set visible price benchmarks that may, in turn, trigger loan-to-value covenants embedded in shipping loans, forcing further distressed sales.

Well-positioned for consolidation phase — NOL’s FY09E net gearing of 0.1x is one of the lowest in its operating history (Figure 4) and also one of the lowest amongst peers (Figure 5). NOL’s ability to make acquisitions from a position of strength is a distinct advantage as the industry enters a consolidation phase.

Maintain Buy/High Risk — Our S$2.00 (ex-rights) target price is based on 1.3x FY09E P/B, similar to levels seen in 2002 recovery. Catalysts: 1) ability to raise rates above current “unsustainably low” levels; 2) volume recovery as global trade resumes; 3) accretive acquisitions. Risks: 1) a prolonged economic recovery; 2) over-paying for acquisitions; 3) persistent vessel over-supply.

NOL - Premature to Turn Positive

Apr-09 data remain weak — Rates continued to head lower by 1% MoM and 21% YoY on lower core freight rates and lower bunker recovery. Volumes +2% MoM, -22% YoY led by decline across all major trade lanes; strong MoM volume upticks in Feb/Mar-09 have eased. See Figures 2 and 3.

Port data points not encouraging — While we believe NOL’s losses peaked in 1Q09, continued weak ports data into 2Q09 suggest recent optimism on a turnaround in container shipping is premature at this stage. Our US transport analyst, Matthew Troy, in his 18-May US/Asia port monthly report, noted that sequential deterioration in rate of decline in port container volumes contrasted sharply with Feb/Mar improvement. Our China transport analyst, Ally Ma, observed “no sequential improvement in container throughput from China ports in first 2 weeks of May, following the deep Apr reversal of previous uptick in March” (see her report on 19-May). Singapore ports data showed a similar reversal in container throughputs trends in April. See Figures 4, 5 and 6.

Watch out for cash call — NOL’s strong share price rally of 61% since its Mar- 09 low provide a window of opportunity for equity issuance to plug funding gap (recall that debt was drawn down to plug negative operating cash flow in 1Q09 when capex was negligible), reduce gearing, or build up cash hoard for future M&A opportunities. Rights issue by NOL cannot be ruled out in light of recent cash calls by other Temasek-linked companies as well as shipping peers.

Other reasons not to own NOL – 1) Industry oversupply from near record high order book and idle vessels; 2) book value erosion from persistent losses.

NOL may begin hunting

We believe NOL is targeting an acquisition within the container/logistics/terminal space of material size. Assuming a debt-to-equity ratio of 40%, its US$1bn rights issue can be combined with US$1.5bn of debt to produce a total purchasing power of US$2.5bn. This can be used to buy very significant assets, especially given the sharp fall in asset values. The lower the acquisition price, the larger the potential upside for NOL. We upgrade NOL to NEUTRAL from Underperform, and increase our cum-rights target price to S$1.62 (from S$1.30). Our valuation target has been raised from 0.7x P/BV to 0.9x 2009 P/BV because of a stronger balance sheet, and its readiness to conclude M&A deals for long-term growth. Key risks are valuations in any deals, any extended weakness in the container shipping sector, and difficulties in raising financing.

NOL is raising $1.437 bln (before expenses) via a 3-for-4 rights issue at $1.30 each. The stock closed at $1.53 last Friday, vs the 86.5 cents low reached on 11 Mar ‘09, at the height of the earlier rights issue saga.

1. We would have been surprised if NOL did not take advantage of a strongly improved share price to raise fresh capital, which it needs not only because of its own capex plans, but also because the crisis must bring with it opportunities for it to seize.

2. So investors should put behind them what had happened earlier, reprimand and all, and take up their entitlement in full.

3. What enables NOL to price its rights at such a narrow 9% discount to the theoretical ex-rights price of $1.43, is the full backing of Temasek Holdings, presently with a 67.43% stake.

4. Temasek will not only take up its entitlement in full, it has undertaken to subscribe for any shares not taken up by minority shareholders.

5. In that event, Temasek’s stake will rise to 81.4%. This is however unlikely to happen, what with green shoots sprouting everywhere. NOL’s latest operating statistics (Period 4 from Apr 4 to May 1) showed the decline (in Revenue per FEU) has slowed, basis for our BUY call.

Neptune Orient Lines (NOL) - Rights issue

Rights issue. NOL announced that it is proposing a renounceable underwritten rights issue at the issue price of S$1.30 for each rights share on the basis of three rights share for every four existing ordinary shares. The net proceeds are approximately S$1.401b after deducting fees and expenses. Approximately 50% of the net proceeds will be used for the repayment of debts. The balance will be used for investments, general corporate and working capital purposes and/or further repayment of debts.

From the list, we note that the median P/E and P/B for the industry are 9.02 and 1.07 respectively. NOL is currently valued at 17.67 times P/E and 0.60 time P/B.

Upgrade from SELL to BUY with fair value raised from S$1.14 to S$2.12. The rights issue reduces the need to acquire bank loans to meet its operating and capital expenditures. It also reduces its net debt to equity ratio from 0.8 to 0.0 for FY2009F. However, it leads to lower earnings per share for all shareholders and dilution of interests for shareholders who do not take up the rights issue.

We like the rights issue as it allows NOL to tap the existing shareholders for cash to reduce its debts and improve its cash position. We upgrade our recommendation from sell to buy and raise the fair value from S$1.14 to S$2.12, which works out to 1.2 time book value for FY2009F.

Subscribe for the rights shares. We recommend that shareholders subscribe for the rights shares. This is because the rights shares are priced at a discount of 38.7% to the fair value of S$2.12 for the stock. Moreover, with cash from the rights issue, NOL will be able to continue with its operation needs and pay for new vessels. It will be in a stronger financial position as it weathers the downturn in the shipping industry.

On NOL 3-for-4 rights issue

NOL announced a renounceable 3-for-4 rights issue this morning, of 1,105m shares at a rights price of S$1.30, to raise S$1.4bn (US$1bn). The share base will expand 75% from 1,475m shares to 2,580m shares. The rights price is at a 15% discount to last market close.

Half of proceeds will be used to repay debt, with the remaining half deployed in this way: (1) investments (if opportunities arise), (2) working capital, and (3) further debt repayment.

We are positive on the rights issue, as NOL is taking advantage of the improved market sentiment to opportunistically raise cash. We expect NOL to be actively engaged in M&A discussions or scour for vessels selling at distress valuations. The book value dilution of 14% is a small price to pay for long-term growth.

However, we retain our SELL recommendation and target price of S$1.30 (0.7x P/BV) for now. This is premised on the current fundamentals of the container shipping market continue to deteriorate, albeit with a slightly higher volume of trade. Nevertheless, we recognise that NOL has the opportunity to transform itself via inorganic growth in the months/years ahead.

NOL Sell: Don’t Ride This Dangerous Beta Play

1Q09 results in-line with our expectations — Revenue -33% qoq, -36% yoy, and makes up 21% of our full-year estimate, while net loss of US$245mn was in-line with the company’s earlier guidance. Volumes (-27% yoy, -16% qoq) were also in-line and make up 21% of our full-year estimate. We expect 1Q09 to be peak losses, provided recent volume upticks in Feb/Mar prove sustainable.

Plugging cash flow gap with debt — 1Q09 net gearing rose to 0.45x from 0.33x in Dec-08 with US$183mn additional debt, offsetting negative operating cash flow of US$139mn. About US$300mn revolving facility was reclassified as long-term debt; short-term debt stands at US$139mn, and we believe this is likely to be refinanced. We expect gearing to reach 0.7x by year-end as more debt is drawn down to plug negative operating cash flow. 1Q09 capex of US$14mn was only 10% of full-year guidance of US$142mn capex, but offset by US$10mn proceeds from fixed asset disposal. We expect capex prudence to continue.

Counter-arguments to the beta exposure — Shipping stocks are usually a direct proxy to the “green shoots” economic recovery story, but we believe the current unprecedented over-supply situation will limit upside to earnings recovery and share price rally: 1) improvement, or optimism, in demand fundamentals will slow the rate of supply correction, prolonging the duration of the downturn; 2) share price rally will lower cost of equity, and an equity offering could become a viable solution to plug funding gap or reduce gearing.

Sell — We see no reason to own NOL at the moment given: 1) book value erosion; 2) higher cash flow needs suggest rights issue cannot be ruled out.

NOL - Sell: March 2009 Operational Update – Volumes Rise, As Expected

Mar-09 data – 2nd consecutive MoM volume uptick of 13% is largely expected but we believe sustainability of volume recovery is uncertain once re-stocking induced improvement in trade runs its course. Outlook on G3 economies continues to be challenging despite recent stimulus & stabilization measures.

Precursors for shipping industry recovery lacking – 1) industry consolidation yet to occur as players focus on survival rather than growth/M&As; 2) shipyard orderbook is still high and dependent on additional funding, while demolitions and order cancellations have been slow. A large-scale coordinated response between shipyards, ship owners, and financiers is necessary to tackle the current shipping crisis. Recent hikes in Asia-EU rates since Feb-09, led by Maersk and followed tacitly by other players, was encouraging as pricing power returned to the industry. But sadly, the effort didn’t gather further momentum.

Refinancing risks – We expect NOL to report peak losses in 1Q09 and cut our estimates further, post management’s recent guidance for 1Q09 loss of US$240mn. We expect lower losses in 2H09 when cost-saving measures take effect. NOL has US$467mn short-term debt due in FY09; with negative operating cash flows this year, debt refinancing may be an option. NOL has ruled out rights issue, but we think it should not be entirely dismissed. Investors could remain wary in light of recent cash calls from other Temasek-linked companies.

Maintain Sell – In light of above concerns, we maintain Sell and keep target price at S$0.90, in line with support PB of 0.5x found in past down cycles, but above trough valuations of 0.4x as we are likely past the quarter of peak losses.

NOL - Caught in stormy seas

Caution: Stormy seas. Neptune Orient Lines Ltd (NOL) is a global container shipping, terminals and logistics company. It ranks among the Top 10 players in the global container shipping industry. We liken NOL to a sturdy ship that has been caught in a disastrous storm - no doubt it is a sound company helmed by an experienced management team, but macro conditions are working against it and the challenges are expected to persist. The shipping industry is directly exposed to global economic forces. Ongoing recessionary woes have resulted in a severe slump in consumer demand and global trade, hurting carriers across the board, with many predicting losses for the year. The International Monetary Fund (IMF) has recently warned of a protracted global recession, quashing optimism over green shoots of recovery. In its statement, it said that "the downturn is likely to be unusually severe and recovery is expected to be sluggish".

Fragile industry outlook. The weak industry outlook is further exacerbated by excess capacity supply, driving down the already weak freight rates to economically unviable levels. Among NOL's main trade lanes, only the Intra-Asia route remains profitable. The Transpacific route is hovering precariously around its breakeven level, while the Asia-Europe route is chalking up losses. With more tonnage slated for delivery between 2009 and 2011, the industry will continue to struggle with supply overhang, delaying the recovery process.

Expect losses for the next two years. Having incurred a net loss of US$149m in 4Q08, the group expects losses to widen to US$240m in 1Q09 on worsening business operating conditions coupled with a seasonally quiet quarter. Losses are almost a definite for FY09 and even FY10 - we are projecting a US$422.5m loss in FY09 followed by a narrower US$170.2m loss in FY10, implying the absence of dividend payouts.

Management has put in place several cost-reduction initiatives that could result in cost savings of US$550m for the year. We expect these measures to take some pressure off the group's earnings in subsequent quarters. Lacking catalysts. A sustained recovery of the real economy and resumption of trade flows are prerequisites for NOL's revival. For now, the protracted slump will weigh on profitability. We see no near term catalysts for the stock and initiate coverage with a SELL rating and S$0.815 fair value estimate, based on 0.4x FY09F NTA. Risks to our assumptions include a speedier-than-expected global economic recovery and positive macro news flow which could lift sentiment.

NOL - 1Q09 profit warning; share price pullback may offer entry level

On April 16, NOL announced that it expects 1Q09 results to show an estimated net loss of US$240mn, which would be comparable to the full-year loss for 2009 assumed by consensus per Bloomberg. We havesuggested that consensus estimates were subject to downside risk, and do not think the market should be terribly surprised by the profit warning.

However, given the sharp 53% surge in NOL’s share price over the past month, we would expect investors to take profit on the news, which could present an entry level for investors looking beyond what we think could be the worst quarter in 2009 for the industry. With one of the last remaining negative share price overhangs being digested by the market, we would expect NOL stock and the containership sector to re-rate, as investors anticipate losses to lessen from mid-09 onwards with volumes recovering from dismal levels of 1Q. 1Q09 results release May 16.

Our estimates remain unchanged, as the loss is within our expectations. We estimate a full-year pretax loss of US$394mn for 2009 and assume tax credits of US$90mn to partly mitigate the losses. We have a Neutral rating on the stock, because we believe that most of the negatives are discounted at current valuations, with the stock trading at a 40% discount to its fleet.

Our 12-month SOTP-based target price of S$1.30 is based on a target fleet multiple of 0.53X, underpinned by an estimated average return on fleet of 7.2% (2009E-11E) and WACC of 10.3%. Advise adding on weakness. Upside risk: Cost-cutting initiatives could provide upside earnings surprise. Downside risk: Possible rights issuance.

NOL - Sell: February 2009 Operational Update – Slight Volume Uptick

NOL’s Feb-09 weekly volumes +10% MoM, -21% YoY, but MoM comparison is distorted by CNY effects in Jan-09; excluding these, we estimate weekly volumes were +1-2% MoM. Feb’s slight volume uptick echoes well with limited economic data releases suggesting tentative bottoming signs, e.g., S’pore’s first MoM increase in NODX. NOL’s rates continue to decline by 10% MoM, 16% YoY on lower core freight rates and lower bunker surcharges.

Too early to turn positive — Liner companies continue to face severe headwinds on two fronts: vessel financing and demand/supply imbalance. Fortis, one of the Top 5 banks offering syndicated shipping loans, noted that only 4 deals worth US$332mn were completed in 1Q09 vs. 268 deals worth US$70bn in 2008 (US$15.8bn in 1Q08), and syndication activity was “dead right now”. Ship owners need to raise US$350-500bn for committed orders at shipyards but face intense competition for limited funds, declining collateral values and higher spreads (300bps currently from 50-100bps 12 months ago).

Hope for supply rationalization — More aggressive delivery postponements and cancellations of existing order book remain the industry’s best hope for restoring demand/supply equilibrium. Only 0.2mn TEU of containerships were delivered in Jan+Feb-09 vs. expected 1.8mn TEU for 2009, implying delivery shortfall of 0.6mn TEU in 2009 (33% of current expected deliveries). We expect demand/supply to trend toward equilibrium at the earliest by end-2011.

No reason to own NOL – We maintain our Sell/High Risk rating given our cautious industry outlook. Our S$0.90 TP is based on trough PB of ~0.4x.