Investment Highlights

• Weaker MYR buoys Petronas’ earnings QoQ. Petroliam Nasional’s (Petronas) net profit rose 6% QoQ to RM12.8bil due to the 1% depreciation of the ringgit vs the USD and halving of finance costs, which was partly offset by lower LNG sales volume and USD-based realised product prices despite average Brent prices rising 9% QoQ. The 4% depreciation of the ringgit YoY largely drove Petronas’ net profit up by 9% YoY to RM24.9bils.

• Slight output improvement supports earnings delivery. Petronas has added a new classification to its upstream business with the gas & new energy (GNE) segment, which covers the marketing and monetisation of gas. On a YoY comparison, the group’s 1H2019 upstream revenue rose 2% to RM20bil while GNE escalated by 13% to RM39bil as the group’s daily oil & gas production rose 1.5% to 2.4mil boe. Revenue variability appears skewed towards GNE as Petronas’ 2Q2019 upstream revenue climbed 20% QoQ to RM11bil from a 1% oil output increase while GNE decreased 25% QoQ to RM17bil from a daily gas production decline of 3% to 1.5mil boe, likely due to lower Iraqi output.

• Capex spending decreased by 21% YoY. Petronas’ 1H2019 capex fell 21% YoY to RM15.7bil largely due to the tail end development of the US$27bil Pengerang Integrated Complex (PIC) in Johor which has reached a completion stage of 99.7%, as downstream spending shrank by 26% to RM4.7bil. The slower spending at PIC also contributed to the group’s 2Q2019 capex in Malaysia falling by 17% QoQ to RM4.3bil. We do not view this decline as alarming for the upstream sector as this could be partly due to multiple projects’ timing of cost recognition and does not signal upcoming cost cutbacks given that Petronas’ 2019–2021 Activity Outlook projected a gradual improvement in the utilisation of rigs, vessels, pipeline/offshore installations next year. Hence, we expect the current downward capex trajectory to sequentially stabilise on a QoQ basis next year with more positive bias.

• No issue on dividend payments. With a net cash balance of RM98bil, Petronas should easily finance the remaining FY18 dividend payments of RM28bil, which comprise a final dividend of RM20bil and RM8bil — part of a special dividend of RM30bil. The group has not declared any dividend yet for 2019.

• 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. Amid the recent disruption to Saudi Arabia’s production from drone attacks purportedly launched by Iran-backed Yemeni Houthis, Brent crude oil prices have rebounded by US$4/barrel from last week to US$65/barrel, which is the YTD 2019 average. With US crude inventories declining by 14% to 417mil 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. 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$63/barrel for 2019 and US$62/barrel for 2020.

• We maintain OVERWEIGHT on the sector as prospects have begun to brighten with rising asset utilization globally which supported service providers’ improving results. 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. As Bumi Armada’s share price has risen by 50% since our recommendation upgrade last month, we have raised its fair value further to RM0.42/share, further reducing our sum-of-parts discount of 20%.

Source: AmInvest Research - 23 Sept 2019