Yangzijiang Shipbuilding – Cash rich yield play

Excerpts from CGS CIMB report

• With the successful spin-off of YZJFH, Yangzijiang Shipbuilding investors’ grouse of ‘shadow banking’ from its debt investments should dissipate, re-rating the stock.
• We adjust our model to ‘carve-out’ YZJFH, arriving at a new TP of S$1.63 (10x CY23F P/E and implied 1.7x FY22F P/BV, supported by its 15% ROE).
• Strong cash conversion cycle should put YZJ in Rmb4.9bn net cash by end FY22F. We pencil in a DPS of 5 Scts (39% payout) for FY22F, a 5.7% yield.
• Key investment thesis in YZJ now lies on its strong shipbuilding execution, attractive valuations of 6x CY23F P/E, and potential higher dividend payout.

Yangzijiang Shipbuilding has room for higher dividend

We adjust our valuation model for Yangzijiang Shipbuilding now based on a ‘carve-out’ model which excludes its debt securities entity YZJ Financial Holding (YZJFH). We estimate the dividend payout of YZJ’s historical shipbuilding to be in the range of 23-35% or 1.65-2.63 cents. We estimate FCF of Rmb0.94bn and net cash of Rmb4.9bn by end-FY22F. This means a comfortable higher dividend payout of 39%, or Rmb0.24 or 5 cents, is possible, in our view . We estimate that given its strong order book of US$8.5bn as at Feb 22 and healthy cash conversion cycle (30 days), YZJ should generate FCF of Rmb1bn/Rmb2.7bn in FY22F/FY23F. YZJ could still end FY22F with Rmb9bn cash even with a 50% dividend payout (upside potential). We have factored in a sustainable 40% payout for FY23F or DPS of Rmb0.31 (6.5 cents; dividend yield: 7%), backed by net cash of Rmb6.4bn in FY23F.

Rising steel costs potentially covered

Average steel spot price in China has risen 8% YTD, according to the CDSPHRAV Index. Although steel cost constitutes a sizeable portion (c.20%) of shipbuilding costs, we believe YZJ has factored in these costs into its contract negotiations. YZJ secured US$7.41bn worth of contracts in FY21, recording a higher average contract value/TEU in 2H22 (c.US$10.48k) than 1H21 (c.US$7.50k), a rise of c.40%. This could have captured the 10% rise in average steel prices in 2H21 to Rmb5,744/tonne vs. Rmb5,219/tonne in 1H21. Some of its contracts clinched in FY21 were based on steel costs assumption of Rmb6k-7k/tonne. Most of the orders secured in FY21 are scheduled for delivery in FY23-24, which means steel procurement could start in 2H22F. We have factored in GPM of 12.5%/16.5%/18% for FY22F/23F/24F (GPM averaged 19% in FY14-20).

Yangzijiang Shipbuilding yards are busy, targets to deliver 70 vessels in 2022

YZJ has not announced any major contracts YTD. We believe this could be due to its yards’ capacity being utilised to execute orders it has secured since 2019. We understand that the group targets to deliver 70 vessels in 2022 (2021: 50). There are still enquiries for new orders but we believe YZJ remains selective on what to take on. We cut our FY22-24F EPS forecasts by 26-34% mainly to account for the spin-off of its debt securities arm. Note that Rmb2.5bn of debt securities (net of impairment) are kept in YZJ as these are either involved in litigation, in financial difficulties, or have not obtained the consent from debtors to be transferred to YZJFH.

Valuation/Recommendation

Considering its earnings visibility through to FY24F, Yangzijiang Shipbuilding is heavily discounted, in our view. It trades at 5.5x CY23F P/E and 0.96x CY22F P/BV. The most recent merger in the sector, i.e. between KEP and SMM on 27 Apr 2022, valued KEP O&M at 3.8x FY21 P/BV based on SMM’s closing price of S$0.12. YZJ is also cheaper than the Korean yards which trade at 1.4x CY22F P/BV with relatively patchy margin records – gross loss positions in FY21 and GPMs mostly below 10% of pre-Covid levels. With and add rating, our TP of $1.63 is now based on 10x CY23F P/E, 2-year average, or an implied CY22F P/BV of 1.7x (supported by 15% ROE). . You can find the full report here and the company website