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Morningstar | Another Kitchen Sinking for Keppel in 4Q 2018; Better Prospect Ahead; Shares Undervalued

Keppel’s nearly two dozen shipyards are strategically located across all major offshore oil-producing regions, in close proximity to its clients. This gives the firm an unrivalled advantage, as it can repair and upgrade vessels locally in a highly responsive manner and provide locally based solutions to contract changes and variations from national oil companies.Keppel has a strong reputation based on its high-quality staff and best practices, as well as its enviable track record of delivering vessels on or ahead of schedule. Keppel also has close relationships with various major drilling players, and the current backlog to 2020 reflects Keppel’s appeal with global rig builders. The quality of Keppel's customer base and products should ensure a slow but relatively steady stream of future orders relative to competitors.However, given the lower rig utilization rates, there appears to be overcapacity in almost all categories. Given this, coupled with the weak oil price and slowing offshore oil and gas exploration and production, we envisage risks of lower order placements, postponed delivery, and order cancellation. Also, emerging shipyards offer relaxed payment methods and cheaper pricing, and their customers have stronger bargaining power and lower switching costs.In 2015, Keppel made a provision of SGD 230 million for Sete Brasil’s projects, but management stressed that the contracts remain legally valid. Following Sete’s filing for judicial recovery in April 2016, we anticipate a long drawn-out process before we can get more clarity on Sete’s plan. On the other hand, although the penalty payment of USD 422 million in 2017 to settle an ongoing investigation into corrupt practices is a one-off, we think it damages Keppel’s reputation and casts doubt on the company’s future ability to garner large rig contracts.We think Keppel’s privatization of Keppel Land in 2015 was timely, as it helps to diversify the firm away from its struggling offshore and marine, or O&M, segment. The property segment is now the key earnings pillar for the firm and contributed 82% of group earnings in 2017.