Cosco - More bad news possible, but market braced for this; maintain Hold

Cosco Corp will be releasing its FY08 results this evening (23rd February 2009). We are expecting FY08 earnings to come in at around S$320m, versus consensus at S$330m. Our forecast is consistent with Cosco’s profit guidance made at the end of last year, stating that FY08 earnings will be lower than FY07. In context, Cosco recorded net profit of S$336.6m for FY07. With Cosco already having posted net earnings of S$326.5m for the first 9M08, the implied lowered loss in 4Q08 will mainly be due to provisions for doubtful debts.

We warn that the level of provisioning could also be significantly higher, on the back of customer requests to delay progress payments and ship deliveries. Cosco also cited increased operational costs such as higher steel and sub-contracting costs and additional development costs at Zhoushan. While these issues were already well-know, these operational issues have also contributed to further delivery delays.

Looking beyond FY08 results, we expect Cosco to earn S$408.2m in FY09, but once again, this may be hampered by further contract delays and cost overruns. While Cosco has consistently paid a healthy dividend of between 40-45% of its earnings in the past 3 years, we believe that this may be reduced due to 1) a much more challenging environment 2) decelerating earnings and 3) a more conservative stance adopted by the company under the new President.

Our SOTP fair value stands at S$1.35. Despite the potential upside, we are maintaining our recommendation at Hold, as we are still unable to determine the full level of provisioning at this point, raising the risk of further earnings downgrades. Cosco’s Price to Book stands at 1.5x, on Book Value of S$0.52.

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