Investment Highlights

• Largely in line with 2Q2019 expectations. The results of the companies under our coverage were within expectations as out of 8 companies under our coverage, 6 was in line with expectations. Velesto Energy outperformed, rebounding to a surprisingly strong 2QFY19 net profit from a rig utilization of only 74%. However, Sapura Energy disappointed notwithstanding a much lower loss stemming from minimal early-cycle fabrication margins derived from the huge central processing platform jobs for Sarawak’s Pegaga and India’s KG-DWN 98/2 NELP blocks amid a crude oil price decline.

• Core net profit surged 79% QoQ to RM1.2bil largely due to Sapura Energy’s absence of cost provisions for its marine assets which slashed its losses by 79% QoQ. The sector’s 2Q2019 EBITDA margin rose 5ppts QoQ to 39.9% with flattish revenue QoQ at RM7.7bil as higher contributions from Sapura Energy, Serba Dinamik and Bumi Armada were offset by declines from Dialog Group, MISC and Yinson (see Exhibit 3).

• Higher asset utilization is finally moving charter rates. After 4 years of low charter rates, recovery in asset utilisation has begun to drive up charter rates for rigs and vessels in tandem with rising offshore activities. Rig charter rates are beginning to track upwards on tightening utilization rates to near 70% while older rigs are being retired amid slowing new units from China yards. In the North Sea, Borr Drilling recently secured rig charter rates above US$100K vs. US$70kK currently in Malaysia. MISC, which is looking at a vastly improved pipeline of potential investments over US$4bil, has indicated that charter enquiries have dramatically escalated over the past 2 months for the offshore, LNG and shuttle tanker segments following project scarcities in 1H2019.

• Malaysia’s 2Q2019 contract awards rebounded 2.1x QoQ and 59% YoY to RM4bil following a lull in 1Q2019 and driven by multiple awards to Sapura Energy while Bumi Armada secured a 30% stake in ONGC’s KG-DWN 98/2 FPSO charter. While 1H2019 awards still contracted 6% YoY to RM5.8bil, the contract flows to the services sector are now on the verge of regaining a more prominent forward momentum. Over the longer term, offshore projects in Brazil, Mexico, the Middle East and West Africa are poised to gain traction with Sapura Energy 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. Westwood Global Energy Group is projecting global drilling and well services expenditure to grow 19% to US$1.9tril for 2019–2023 from 2014–2018.

• Maintaining 2019–2020 crude oil forecast at US$65–70/barrel amid high volatility. With US crude inventories declining by 13% to 423mil barrels since the 1-year peak of 485mil in June this year, we retain our 2019–2020 price forecast at US$65– US$70/barrel which has been maintained since 3 December last year. Brent crude prices are trading at just US$60/barrel currently due to the dampened global growth outlook while averaging US$65/barrel to date this year. Since the beginning of 2019, the EIA Short-Term Energy Outlook has continuously revised its crude oil projections, moving its Brent oil projection between US$60/barrel and US$70/barrel and currently settling at US$65/barrel for both 2019 and 2020.

• We are upgrading the sector to OVERWEIGHT from NEUTRAL as prospects have radically brightened with rising asset utilization globally which supported service providers’ improving results. This is despite the continued volatility in the oil price direction exacerbated by the unresolved US-China trade tension, deteriorating global economic growth outlook and easing of US pipeline constraints. While we have BUY calls for Bumi Armada, MISC, Sapura Energy and Velesto Energy, 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. Nevertheless, we may downgrade to sector due to: 1) higher-than-expected shale production and earlier-than-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 - 6 Sept 2019