STX OSV 72% of FY12F revenue secured

FAIR VALUE: S$2.000

- Won 2 contracts totalling NOK 1,150m for a subsea support vessel for Island Offshore for delivery in 2014Q1 (NOK 500m+), and for an Offshore Subsea Construction Vessel for DOF for delivery in 2013Q2 (NOK 650m).

- Good sign of vessel financing recovery in OSV market. These are two large and complex vessels which we had hoped would be part of FY11 order wins. That was derailed by the Euro crisis which froze the financing markets (recall the Eksportfinans issue) for shipowners, which delayed orders to yards. The final signature on these contracts indicates that financing may be flowing again, hopefully as a sign of more to come.

- 11% of our order win assumption, but only 20% of required 1H2012 wins. STX OSV needs to win
 another NOK 9.4b to meet our revenue assumption for the year. However, we believe that STX OSV needs to win around NOK 6b within the first half of the year to be able to recognize enough revenue to meet our FY12F revenue forecast.

- 72% of FY12F revenue secured, up from 67% as of last month, according to our revenue-allocation model for each ship in the order book. Time is running out—there is a lag time of 1-2 months between contract signing and actual revenue recognition. Further, as revenue recognition follows an S-curve, the percentage recognized in earlier quarters is already low. These are the operational issues we see being a downward risk to our revenue forecast.

- Sharp revaluation in the last quarter has lifted STX OSV from our deep-value list. When we initiated coverage of STX OSV at $1.13, this was equivalent to 5-6x forward P/E, making it one of the cheapest stocks in our selection. This is no longer the case. On a forward basis, the stock is currently trading at 9.8x, making it that much riskier for investors. It is also no longer especially cheap within its sector, now trading at 11x.

- Fast approaching our market-neutral DCF value of $2.09, using a beta of 1.4, risk premium 6%, for a total discount rate of 13.7%, 9-year second-stage growth of 7% to 2025F, and terminal growth of 2.5%.

- Raise FV to $2.00, maintain Buy, maintain caveat: Alongside the sector recovery, we raise our peg from 10x to 11x FY12F EPS, reaching a fair value of $2.00. Including the 5% dividend yield estimate, there is an upside of 17% to warrant the buy call. However, we repeat the same caveat as in the last update — much of the revenue is unsecured— failure to win sufficient contracts early enough would cause the company to miss the forecast. The financing problems are not over in Europe, and high-beta STX OSV stands particularly at risk should the market get the jitters again.