We deem BAB’s 1Q18 core profit to be in line (accounts for 18%/20% of our/consensus FY18 estimates respectively), as we expect stronger financial quarters ahead. We expect 2Q18 to see a partial impact from the uptick in Olombendo’s finance lease income from its 17 May final acceptance, and full earnings impact from Kraken by 2H18. Subsea activities are also expected to ramp up. Kraken’s final acceptance (by mid-18) is a critical milestone for a strong share price rerating. Maintain BUY and target price of RM1.06.

RESULTS

• 1Q18 core profit in line, and met 18%/20% of our/consensus full-year estimates. Its FPSO segment saw a surge in profits (despite flattish revenue) due to lower cost base of Olombendo, and improving Kraken production. Bumi Armada (BAB) recognised RM193m of finance lease income in 1Q18 from Olombendo and FSU Malta (though Malta is a very small income contributor). This implies that Olombendo is very significant, accounting for almost 35-40% of BAB’s total FPSO revenue. The OMS division however recorded losses due to a drag arising from the monsoon effect, which saw utilisation decline to 38-40% in 1Q18 (4Q17: ~48%, 1Q17: 44%). JV profits declined qoq given that the Karapan Armada Sterling III started to incur interest expense, after having received 100% of day rate in end-17.

STOCK IMPACT

• One-off items in 1Q18. There was a RM14.7m disposal gain of assets related to two OSV vessels, which should reduce the total OSV fleet size to about 43-44. BAB also recognised RM37.8m impairments, of which RM30m is for the demobilisation costs provision for Perdana. Another RM10m impairment was incurred for OMS receivables. We also stripped out a net RM13m forex loss and RM6m fair value gain of derivatives.

• Stronger outlook for FPSO, critical for securing Kraken acceptance. FPSO Olombendo’s final acceptance was finally concluded on 17 May 18. For FPSO Kraken (which is now being recognised as operating lease), management guided that it is on track for final acceptance by mid-18. Enquest stated that Kraken gross production improved to 36k bpd, while we observed that six tanker offloads were carried out in 1Q18. However, the average Kraken rate recognition in 1Q18 is likely to be <70%, as the revenues for March was impacted by the planned shutdown of the FPSO (also, there was only one tanker offload in Mar 18). Overall, we estimate that 2Q18 should see a partial uptick in Olombendo finance income recognition in tandem with the change in rate recognition from 90% to 100% (likely around RM8m), and a slight improvement in Kraken’s recognition to >70% rate as the tanker offloads had resumed to the normal pace of 2-3 per month. It is critical for BAB to secure Kraken’s final acceptance however, to further boost 2H18 earnings as Kraken will be recognised as finance lease on 100% basis.

• Subsea to ramp up OMS activities. There are increasing client surveys for OSV activities in view of higher oil prices, although this has yet to translate into higher work orders. Even assuming that OSV utilisation remains at 40%, subsea is expected to drive qoq OMS earnings because of the ramp-up of Lukoil activities. Armada Installer is mobilised for future pipelay jobs. Armada KP-1, which was idle for a long time, has completed its first pipelay project in Indonesia and will work on more Indonesia jobs on a sporadic basis.

• TGT1 is another catalyst by Aug 18. Our above-consensus earnings forecast had incorporated a high chance for TGT1 extension after Aug 18. Although the firm contract was structured to expire in 2018, the current commendable levels of production gross production averaged 28.5k boepd in 2017 (2015/2016: 34k boepd/ 27.7k boepd) as well as the client’s (SOCO International) commitment to incur capex to boost future production are very strong signals that the FPSO will continue to be utilised.

• Balance sheet management is key strategy. Although EBITDA improved yoy from RM221m to RM325m in 1Q18, there was a RM224m investing cash outflow for its 20% equity investment in the JV FPSO Karapan Armada Sterling III as a condition after receiving the full 100% rate recognition in end-17. This reduced cash balance from RM1.8b to to RM1.5b. Our cash flow forecasts assumes no new project win, which implies a very low capex outflow of

EARNINGS REVISION/RISK

• Maintain earnings forecasts. Our earnings forecasts mainly assume full recognition of Kraken and Olombendo finance lease income from mid-18 onwards, and recovery in utilizstion and profits for the OMS division (which combines OSV and T&I).

• Risks. a) Worst-than-expected utilisation, b) unexpected further impairments, and c) poor performance and delivery of the FPSOs.

VALUATION/RECOMMENDATION

• Maintain BUY and target price of RM1.06. Our SOTP-based target price implies 1.0x 2018F P/B and 11x 2019F PE, at a discount to Yinson’s implied valuation of 18x forward PE. The DCF for the FPSO division is valued at RM0.85/share (WACC: 8.0%, up to firm value, terminal value 15%), and the OMS division (combining OSV and T&I) is valued at 1x recoverable value (ex-impairment) at RM0.25/share.

SHARE PRICE CATALYST

• Earnings upgrades, improving utilisation, compensation of the Armada Claire litigation (US$280m or RM0.20/share at the maximum scenario), and new contract wins (not factored in our valuations and forecast).

Source: UOB Kay Hian Research - 1 Jun 2018