Korea Shipbuilding:Buys,Prefer Hyundai Heavy and Mipo given their dominance in commercial vessels

Order momentum building: According to the Wall Street Journal (7 June), IslamicRepublic of Iran Shipping Lines (IRISL) and Iranian Offshore Oil Co. (IOOC) are said tohave reached preliminary agreements with Korean shipyards for orders worth roughlyUSD2.4bn. IRISL has reportedly signed an MoU with Hyundai Mipo Dockyard for up toten petroleum-product tankers and at least six handysize bulk carriers; product tankerscost approximately USD30m each and handysize bulkers about USD20m. In addition, theWSJ reported on 7 June that Hyundai Heavy is also said to be negotiating an order for upto six 14,500-containerships. IRISL operates about 115 vessels with a total capacity of3.3m deadweight tons, but many of the ships are outdated and need to be upgraded. Asdisclosed, the Korean yards are expected to start building the ships in 2018 and 2019.The Iranians are targeting to make 20% down payments to finalize the orders.

    Resume of RG issuance= more new orders: On 8 June, the Korean governmentand central bank announced their plan to create a KRW11trn recapitalization fund to helpstate-run banks restructure the shipbuilding sector. KRW1trn will be directly injected intothe Export-Import Bank of Korea (Korea Eximbank) by the government and a loan ofKRW10trn will be extended by the Bank of Korea (BOK). We think this clearly implies thatcreditors will soon start issuing refund guarantees (RG) for new orders as this has beenthe main reason why new orders for Korean yards were down so much in April and May(new orders were down 95% y-o-y during Jan-May 2016). For example, Hyundai Heavyreceived a new order to build 2 LNG carriers last week (Yonhap, 3 June). We continue tobelieve new orders of commercial vessels are set to come back in June, especiallytankers including both crude and product tankers.

    Be more selective – we prefer Hyundai Heavy (009540 KS, KRW115,500, Buy, TPKRW150,000, 29.9% implied upside) and Mipo (010620 KS, KRW74,600, Buy, TPKRW100,000, 34% implied upside) with their dominance on commercial vessels.Order momentum for Hyundai Heavy and Mipo looks relatively sound as we expectorders to come from LNGC and tankers. We think order visibility should improve in Juneand 2H16, and Hyundai Heavy’s self-restructuring plans including the potential sale ofnon-core assets should improve its liquidity risk. In addition, we do not assume furtherbook value erosion for both Hyundai Heavy and Mipo in 2016. Therefore, we continue toprefer commercial segments over offshore. In our opinion, it is still too early to becomepositive on the offshore sector despite the recent oil price recovery.