Weak outlook: We expect a sharp drop in revenue given the current low backlog level and stagnant new contracts, plus broader weakness in key market segments (capex/cost reductions at the upstream and oilfield service companies). Further, low utilization rates at the offshore production base and higher DD&A and interest costs will weigh on earnings.
Offshore business risks rising: As at mid-August, Honghua held RMB5.0bn of backlog related to offshore business (contracts include RMB2.0bn semisubmersible and RMB1.2bn for selling six oil vessels to a Korean ship contractor). The prospects for these two contracts are uncertain, and workload timetables may be extended or deferred. Management suggests it needs firmcommitments before proceeding.
New contract momentum stalls:Honghua normally discloses major new orders. But during October 2014 to June 2015, Honghua made no disclosures. A multi-quarter gap is rare in Honghua’s history. The oil price slump has resulted in reduced capital spending and prolonged decision making by Honghua’s clients. Total new contracts disclosed YTD amount to RMB1.4bn, or only 30% of our new 2015e revenue forecast.
We cut Honghua’s bottom line to: 2015e (-RMB123m), 2016e (-RMB128m) and 2017e (RMB46m) (from RMB18m, RMB106m and RMB134m) as we postpone revenue contribution from Cobra semisub and six oil vessels, and cut land rig sales units and ASP.
We downgrade our rating to Reduce from Holdbased on a fair value target price of HKD0.35 (from HKD0.96). To derive our TP, we apply a 0.2x PB to our 2015e BVPS estimate of HKD1.77 (previously 0.5x 2015e BVPS HKD1.92). We assume the shares will move to 0.2x book; well below the cyclical trough in 2008-09, and a relatively subjective valuation judgement given that it is below the historical PB valuation range.Our 2015-17e net inc/(loss) is RMB150m, RMB240m and RMB150m below consensus. Our TP is 50% below a falling consensus. Key upside risks:China government industry policy support, China government market interventions, gross profit margin improvements; recovery in land and jackup rig orders; macro-economic improvements and oil price increases; strong offshore rig business order execution.