Investment Highlights

• We maintain our BUY call on Velesto Energy with an unchanged fair value of RM0.46/share, based on an FY21F PE of 35x – comparable to its 5-year peak.

• While we have largely maintained our FY21F–FY22F earnings, we have cut Velesto’s FY20F net profit by 20% on lower rig utilisation to 80% from 90% earlier as Naga 3 has been idle since December last year.

• Recall that the rig was supposed to be undergoing a special periodic survey (SPS) maintenance programme for a 6–8 week zero-rated period in Singapore. However, the group is still waiting for Petronas Carigali’s instruction for the recommencement of the rig at this stage.

• Meanwhile, Velesto’s FY19 core net profit of RM31mil underperformed expectations, coming in at 23% below both our and street’s estimates. This stemmed from a worsethan-expected impact from rig utilisation which declined to 86% in 4QFY19 from 92% in 3QFY19, due to the SPS maintenance schedule for both Naga 3 and Naga 7.

• While the impact on the 4QFY19 rig utilisation was in line with our assumption, the charter reduction and corresponding margin impact were higher than our expectation. This directly caused Velesto’s 4QFY19F core net profit to drop 69% QoQ to RM10mil.

• However, on a YoY comparison, the group’s FY19 core net profit rebounded from an FY18 core loss of RM22mil due to a 7ppt YoY increase in rig utilisation to 80%.

• In a separate development, Velesto has proposed a RM2.2bil capital reduction exercise, transferring its share capital to completely offset its accumulated losses, facilitating the group’s ability to pay dividends in future. We are neutral on this development as this will not affect Velesto’s number of shares, EPS and fair value.

• The group remains optimistic that Petronas' rig requirements will remain at 16–17 units as guided by its

Activity Outlook. Hence, management expects that Naga 7, which requires a new contract by 4QFY20, to secure a new charter, currently under negotiation.

• Velesto also expects to extend Naga 3 charter with Petronas Carigali by 3QFY20 at higher market rates vs its existing DCR. Likewise, the group expects all 4 charters from Petronas Carigali, which were secured in April 2019, to be extended on higher rates.

• While Velesto’s FY21F PE of 23x may appear high, this is justified given the inflective earnings escalation following years of losses.

Source: AmInvest Research - 26 Feb 2020