Investment Highlights

• Fatalities and serious injuries at Pengerang Integrated Complex. The media reported that an explosion and fire occurred on 15 March 2020 at the diesel hydrotreater unit at the Pengerang Integrated Complex (PIC) near Kota Tinggi, killing 5 men and injuring 2, one of them sustaining 70% burns. The plant diesel hydrotreater unit uses hydrogen to remove sulphur waste from raw diesel. On 12 April last year, 2 security guards were also injured in an explosion and fire at Refinery and Petrochemical Integrated Development’s (RAPID) atmospheric residue desulphurisation unit, within the PIC. There was no significant impact back then as RAPID had not yet reached commercial production. With mechanical completion already completed, RAPID is still at the commission stage and progressively ramping up production currently with full operations by 2Q2020.

• Extensive investigations unlikely to impact PChem. Given the severity of the incident, we expect extensive investigations before RAPID could fully begin operations. Nevertheless, we had projected minimal earnings contributions from Petronas Chemicals Group’s 50%-equity stake in the petrochemical operations of RAPID as management had guided for 2H2020 EBITDA breakeven amid a low polyethylene-naphtha spread. As the group has insurance coverage for any damage or losses from this incident, we expect minimal FY20F earnings impact to PChem, in line with its Bursa announcement.

• Minimal impact for providers of recurring maintenance services. While Dialog Group has Pengerang Deepwater Terminals, we understand that the incident occurred beyond the terminals’ boundary. While Pengerang Terminal 2 and LNG 2 cater exclusively to Petronas, the storage facilities are on a take-or-pay terms. Even if Petronas may not require the storage facilities due to any potential postponement in the RAPID commencement, Dialog’s earnings from these terminals will continue as projected. However, a RAPID delay could slow down the group’s recurring income growth from its specialist services and plant maintenance divisions. For now, we expect the FY20F impact to be minimal to Dialog given the strong growth from the maiden contribution from 1.3mil m3 storage facilities in Pengerang Phase 2, which has been recently completed together with 120,000m’ capacity from Tanjung Langsat 3. Likewise, Serba Dinamik Holdings, which provide rotary maintenance services, could also experience slower growth in Malaysia. However, given that overseas operations drive 71% of the group’s revenue, we do not expect any decline in revenue growth to be substantive at this juncture.

• Far more negativity from the new MCO and ongoing Saudi-Russia price war. All in, we do not expect this Pengerang incident to significantly affect the earnings prospects of the stocks under our coverage. We view that the far more important drivers of negative equity sentiments are the government’s movement control order to restrict non-essential businesses until 31 March due to the novel Covid-19 pandemic together and the ongoing Saudi-Russia oil price war over the past week, which caused a plunge in crude oil prices following the failure of the meeting between Opec and its allies on additional production cuts. Recall that Saudi Arabia has launched an aggressive oil price war against its rivals after Russia refused to participate with the oil cartel with unprecedented discounts of almost 20% in key markets, apparently targeting Russia and the US shale industry as well as other higher cost producers. Whether this action will bring Russia back to the negotiating table remains uncertain given that Russia’s fiscal breakeven price for oil at US$42/barrel, half of Saudi’s US$84/barrel.

• Overall bearish sentiments to prevail in the foreseeable horizon. Following the downgrade to UNDERWEIGHT to the sector last week, the share prices of the companies in our coverage have already reached our earlier fair values, pegged to 5-year P/BV lows. Regardless of upstream, midstream or downstream segmentation, we expect the overall global demand destruction from Covid-19 on top of the Saudi-led price wars will continue to dampen industry sentiments in foreseeable horizon. Given that the decimation to oil prices and companies’ earnings are likely to be even worse than the 2014–2017 down-cycle which led to multiple financial distress to O&G corporations, we have applied a further 20%–30% discount to the 5-year lows to the stocks which have already reached our fair values. As such, we retain our SELL calls for Bumi Armada, Dialog Group, Sapura Energy, Serba Dinamik and Velesto Energy (See Exhibits 2–3). The companies which have the most reductions in fair values are Bumi Armada (-55%), Sapura Energy (-49%) and Velesto Energy (-47%).

Source: AmInvest Research - 17 Mar 2020