Let’s start with key financials…
2016 headline net profit came at RMB1.9bn (+64% YoY), which was in linewith the previous guidance (RMB1.8-2.2bn). However, adding back provisionsfor long-term charter contracts (i.e. RMB230m) and scrapping loss (i.e.RMB340m, note a corresponding government subsidy of RMB350-400m willbe booked in 2017), 2016 earnings would reach RMB2.5bn, beating consensusforecast (RMB2.3bn).
The strong earnings growth was attributable to the combination of dry bulksegment disposal (gain of RMB760m) and cost control. With 4% decline in tonmileshipments, its total operating cost fell 7.3% YoY. Bunker cost, whichaccounted 20% of total operating costs, dropped by 30% YoY as the companynot only managed to save consumption volume (-0.5% YoY) but also furtherraised fuel efficiency (1k nautical-mile fuel consumption -5% YoY).The company raised its dividend payout to 40% (vs. average 32% historically),which is a bright spot. The final dividend of RMB19 cents represents a yield ofof 5%.
Multiple catalysts ahead; Buy
At 0.6x forward P/B, the stock is trading at massive discount to its sistercompanies (Cosco Shipping Holding 4.4x forward P/B; Cosco ShippingDevelopment 0.9x forward P/B). As a result, we don’t rule out the chance thatits parent company (holds 38.56% stake in the listco currently) might initiate ashare buyback. In addition, we expect its management incentive plan to rollout this year, which should bode well for the stock performance.
While tanker cycle might face some downward pressure this year, we areconvinced that it should resume its upcycle since 2018 because of the comingballast water convention. Our recent checks with shipowners have reaffirmedour view that VLCCs over 15 years are highly likely to be scrapped on extracost for ballast water management systems, higher maintenance cost andfreight rate discount (to new ships). Currently there are nearly 20% of globalVLCC fleets over 15 years. Along with picking up scrap price and tapering offnewbuild price, VLCC scrapping will speed up, lifting the rates and stock.
We use P/B method to value this company on its volatile earnings andcashflow. Our target price of HKD6.6 is based on 0.8x P/B. We think this is fairas we expect the company to make RMB1.5bn net profit, or 5.4% ROE in 2017.We maintain our Buy rating. Key macro risk is weaker-than-expected Chinagrowth and key company-specific risk is lower-than-expected VLCC rate.