Restructuring on the cards?

• Beneficiary of potential restructuring

• Forerunner among China yards to ride on the upswing of offshore contract flow.

• Shipbuilding recovery on track.

• Maintain BUY; Raised TP of S$3.03 is poised for further re-rating.

A boost from the parent? Talks of Cosco Group’s restructuring resurfaced following the Chinese government’s plan to push forward the complete listing of major centrally-administered SOEs in 2011, requiring the listed SOEs to also list their non-core businesses. While management could not verify this, Cosco Corp, in our view, will stand to benefit from the potential restructuring. The possibility of its parent injecting its remaining ownerships in two shipbuilding operations: 1) 19% stake in Cosco Shipyard Group (CSG, which is 51%-owned by Cosco Corp currently); and 2) 100% stake in Cosco Shipbuilding Industry Company (CSICO), which owns two shipbuilding yards in Nantong and Dalian could be earnings accretive for Cosco Corp.

Climbing up the offshore ladder. The successful and timely delivery of its first cylindrical rig (Sevan Driller I in Nov 2009) and jack-up (Super M2 in Jun 2010) has sharpened their competitive edge in offshore. Cosco Corp made another breakthrough after it secured the first drillship project among Chinese yards (DP3 or previously MPF project). The proven track record has opened new doors for Cosco Corp to compete with Singapore and Korean yards for jackup, drillship and other offshore orders.

Improving shipbuilding earnings. Cosco Corp aims to shorten delivery lead time from 14-16 months in 2010 to 12 months by 2011. With the more efficient production flow as well as experienced labour force and management, shipbuilding margins are set to rise in years ahead, more than offset the lower pricing contracts. The group has delivered 32 vessels in 2010 and 4 YTD, in line with expectation. It is expected to deliver >40 vessels this year.

From dark horse to Pegasus. Maintain Buy, with a raised target price of S$3.03, based on blended FY11/12 PE and P/BV. Share price is poised for further re-rating in the event of: (1) injection of strategic stakes by parent; 2) stronger contract flow; and 3) better-than-expected shipbuilding improvement.