Shipbuilding-2Q preview:Orders more critical than earnings

Excluding restructuring costs, 2Q results should be in line: We believe Korea’smajor shipbuilders will post lower-than-expected 2Q results, though figures should be inline and similar to 1Q numbers if excluding one-off restructuring costs. Consensusestimates for 2Q operating profits have risen an average of 62% since 1Q results werereleased (forecasts for Hyundai Heavy Industries and Hyundai Mipo Dockyard haveincreased a respective 68% and 59%). HHI delivered a 1Q surprise, helped by exceedinglylow market expectations and improving shipbuilding profitability. Samsung HeavyIndustries also did well in the quarter, earning an overall operating profit of KRW6.1bdespite a loss in the offshore division (59% of sales). With sales still holding up, costcutting and lower equipment-purchase prices are shoring up profits—barring additionallosses in offshore businesses, we believe shipbuilding-unit profits will hold steady at 1Qlevels throughout this year. Meanwhile, we expect companies to more aggressively look toreduce expenses as they eye shrinking order backlogs and a looming plunge in sales andfixed-cost drag on profits next year. With falling sales next year likely to offset the effectsof cost-cutting and labor restructuring in 1H16, we doubt investors will grant muchsignificance to 2016 earnings.

    Restructuring, orders more critical than 2Q results: Worries of an impendingplunge in sales continue to swirl, and are unlikely to ease until orders begin to recover.

    Global shipbuilding orders in 1H dropped 66% y-y, according to Clarksons. Koreanshipbuilders bore the brunt, their orders falling 88% y-y and their market share decliningto 13%. We attribute this to an unfavorable order mix concentrated on bulk carriers(Chinese players’ strength) and industry restructuring. Korean shipbuilders havesubmitted plans to cut costs, sell assets, and restructure labor and facilities to creditors,but the unions have refused to accept the plans and are moving to strike, while banks arereluctant to issue refund guarantees, making it hard to finalize order contracts. Localmedia reports say the government will take measures to support the sector after reviewingthe results of a private consulting report commissioned by the Korea Offshore &Shipbuilding Association, which is to come out in August. Until restructuring uncertaintydissipates, ship owners are likely to remain reluctant to place orders with Korean firms.

    We maintain NEUTRAL on the sector.