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Kenanga Research & Investment

Author: kiasutrader   |   Latest post: Fri, 6 Dec 2019, 5:41 PM

 

Oil & Gas - At The Turning Point?

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Earlier in the week, OPEC+ had agreed to extend its production cuts by another 9 months to March 2020. We view this positively, with it being imperative to sustaining oil prices at current levels, although near-term negatives could still arise as some market observers may have expected a widened production cut to mitigate recent demand-side concerns. Nonetheless, data shows that OPEC-11 has been fairly consistent in meeting production cut compliance throughout the year, with Russia also having reached full compliance since May 2019 onwards. We feel current Brent crude prices at USD60-70/barrel to be "sensible", with oil majors more than comfortable producing at these levels, and as such, we maintained our 2019-2020 Brent crude average price assumption at USD65/barrel. Meanwhile, local contract flows have seen an uptick for the past 3-4 quarters. While we are still far from a “contract bonanza”, signals of improvements such as these could mean that the sector is currently at a turning point, although we feel that an upcycle could be long and gradual. In tandem with Petronas’ activity outlook guidance, recent contracts mainly came from the marine vessels, drilling and maintenance space. Nonetheless, we feel that many names within the sector would still need to undergo restructuring and/or balance sheet recapitalisation in order to regain competitiveness to fully benefit from the increased jobs flow. Currently, we posit that names with great international exposure and a relatively healthy balance sheet (e.g. SAPNRG, SERBADK, YINSON) still remain the likeliest to benefit from a long-term recovery. We maintain NEUTRAL on the sector, given limited upside on Petronas-related counters, although with increased sanguinity. Earnings delivery and balance sheet strength still remain as our key selection criteria, and hence, we continue to favour names such as SERBADK and YINSON, although we have also highlighted PANTECH and SAPNRG as tactical plays.

OPEC+ agrees to extend production cuts. Earlier in the week, OPEC+ had agreed to extend its production cuts by another 9 months to March 2020. This would follow-through from its previous output limitation agreement, which was set to expire June-2019, and continue production cuts of 1.2m barrels per day from its Oct-2018 benchmark all the way until 1Q20. While we view this positively, with the extended production cuts being imperative for oil prices to sustain at current levels, some near-term negatives could still arise as market observers might have expected a widened cut to mitigate some recent concerns over slowing of demand growth. Data has shown that OPEC-11 has been fairly consistent towards its compliance on the production cuts, with Russia having also reached full compliance since May-2019 onwards. Overall, we feel the current trading range of Brent crude oil and prices between USD60-70/barrel to be “sensible”, with oil majors more than comfortable producing at these levels given favourable and very feasible oil economics. Overall, we keep our 2019-2020 average Brent price assumption of USD65/barrel unchanged.

Early uptick in contract flows. Contract flow started to show signs of a gradual pick-up for the past 3-4 quarters, although there is still some distance to matching the peaks seen in 2013-2015. While this is still far from being considered as a “contract bonanza”, the improved contract flow is, nonetheless, a positive sign coming on the back of recent stabilising oil prices, and as a result of (i) under investments in the yesteryears, coupled with (ii) increased local activities, as guided by Petronas’ latest activity outlook and increased upstream spending. In fact, in tandem with Petronas’ latest activity outlook, we observed that recent contracts have mostly come from the (i) marine and subsea vessels, (ii) drilling rigs, and (iii) HUC & MCM space.

At an inflection point? While contract flows have started to show signs of improvement, an upcoming upcycle may still be long and gradual, instead of an instant “boom”. We note that many of the contracts, especially from the marine vessel chartering space, are still relatively small in value as compared to the larger fabrication/engineering or multi-year maintenance jobs. With margins much more competitive than ever given the current cost optimisation landscape, we feel that there is still a need for companies to undergo some form of restructuring and/or balance sheet recapitalisation before they can regain competitiveness and fully benefit from the increased job flow and deliver on jobs execution. With that said, we still find a large sum of the local oil and gas service and equipment providers to be heavily reliant on local job flows. As such, we believe names with great international exposure and a relatively healthy balance sheet (e.g. SERBADK, SAPNRG, YINSON) may be the likeliest to benefit from the gradual long-term recovery of the oil and gas sector.

Maintain NEUTRAL, given limited upsides to big-cap Petronas counters, although we are starting to increase our sanguinity on the sector given its early signs of a gradual recovery. From here, earnings delivery and balance-sheet restructuring, especially from the smaller less-established names, would provide another added catalyst towards the sector. Nonetheless, we still remain resilient with our stock picks at this juncture, favouring names with (i) visible strong earnings growth, (ii) track record of good earnings delivery, and (iii) healthy balance sheet. As such, our preferred picks from the sector are SERBADK (OP, TP: RM4.80) and YINSON (OP, TP: RM7.75), although we have also highlighted PANTECH (OP, TP: RM0.69) and SAPNRG (OP, TP: RM0.43) as tactical plays for this quarter.

Source: Kenanga Research - 5 Jul 2019

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Related Stocks

Chart Stock Name Last Change Volume 
SERBADK 2.05 +0.05 (2.50%) 5,907,100 
YINSON 6.49 0.00 (0.00%) 441,000 
PANTECH 0.485 0.00 (0.00%) 134,400 
SAPNRG 0.26 -0.005 (1.89%) 36,507,200 

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