Investment Highlights

• Mostly in line with 1Q2019 expectations. The results of the companies under our coverage have improved as out of the 8 companies under our coverage, 6 came in within expectations. Dialog Group’s results were stronger than expected due to lumpy contingency cost write-backs from its Pengerang Phase 2 developments which are nearing completion while Sapura Energy’s poor performance stemmed from provisions for its marine vessels amid declines in crude oil prices.

• Core net profit declined 35% QoQ and 30% YoY to RM714mil largely due to Sapura Energy’s cost provisions for its marine assets which drove down the sector’s EBITDA margins by 3ppts QoQ and 5ppts YoY to 36%. Sector revenue slid 3% QoQ to RM7.6bil due to lower earnings days for the tanker division and reduced construction recognition for the heavy engineering segment, while rising 7% YoY from 2 additional short-term LNG charters and higher petroleum charter rates (see Exhibit 3).

• Lingering balance sheet risks in the sector. Notwithstanding crude oil price having risen by 17% since the beginning of the year to US$62/barrel currently, balance sheet risks linger with Barakah Offshore Petroliam recently joining Perisai Petroleum Teknologi, Daya Materials and Sumatec Resources into PN17 financial distress status. We note that while Bumi Armada’s has successfully refinanced its unpaid US$380mil debt, the possibility remains that the group will still need to undertake a highly dilutive equity-raising exercise amid a depressed share price given that it has secured a 30% equity stake in an India-based FPSO which could cost over US$1bil.

• Maintain 2019–2020 crude oil forecast at US$65-70/barrel. With US crude inventories up 8% since the beginning of the year to 476mil barrels and Brent crude prices declining to US$61/barrel while averaging US$66/barrel to date, we maintain 2019–2020 price forecast at US$65-70/barrel, which has been our forecast since 3 December last year. Over the past 3 months, the EIA has raised its Brent oil projection to US$70/barrel from US$61/barrel for 2019 and US$67/barrel from US$62/barrel for 2020 on tighter global markets in mid-2019 amid increasing supply disruption risks in Iran and Venezuela. We highlight that the EIA’s constant price forecast revisions affected high market volatility given multiple demand-supply dynamics amid global demand expectations that are likely to be depressed with the US recently declaring new tariffs on Mexico and the withdrawal of India’s preferential trade status. These are in addition to poor visibility of a resolution to trade tensions with China.

• Contract awards declined 20% YoY and 27% QoQ to RM3bil in 1Q2019, largely due to Sapura Energy securing lumpy central processing platform jobs for the Pegaga project off Sarawak in 1Q2018 together with the developments for the Hokchi field in the Gulf of Mexico and KW-DWN 98/2 block off India in 4Q2018. Nevertheless, offshore projects in Brazil, Mexico, the Middle East and West Africa may be still poised to gain traction with Sapura and MMHE being selected for Saudi Aramco’s Long Term Agreement programme, which allows them to bid for the kingdom’s massive offshore projects that could reach US$150bil over the next 10 years.

• We are NEUTRAL on the sector given the likely continued volatility in the oil price direction over the next 6 months, lingering balance sheet risks of Malaysian operators, unresolved US trade dispute, deteriorating global economic growth outlook and easing of US pipeline constraints. Our top picks are still companies with stable and recurring earnings such as Serba Dinamik and Dialog Group. We like the recurring income business model of Dialog and Serba Dinamik, which are involved in operation and maintenance services while Dialog’s earnings visibility is further secured by the Pengerang Deepwater Terminal project with its enlarged buffer zone.

• We may upgrade the sector to OVERWEIGHT if rising geopolitical tensions drive crude prices above US$70/barrel amid an easing of US trade war sanctions and a resurgence of global economic growth expectations. On the other hand, we may downgrade to UNDERWEIGHT due to: 1) higher-than-expected shale production and earlierthan-projected transportation bottleneck alleviation; 2) slower-than-expected global economic growth against the backdrop of worsening trade tensions; 3) accelerated adoption of fuel-efficient-cum-electric vehicles that could reduce consumption and lead to “peak oil demand”; 4) non-compliance by Opec members to their agreed quotas, which will again lead to aggressive measures to regain market shares; and 5) increasing exit from oil and gas stocks by ESG-compliant global funds.

Source: AmInvest Research - 4 Jun 2019