Investment Highlights

• We have maintained our HOLD recommendation on Bumi Armada with an unchanged fair value of RM0.79/share based on a 20% discount to our sum-of-parts (SOP) valuation of RM0.99/share. Our forecasts are unchanged pending the results announcement later today.

• The Financial Times reported that EnQuest has told Bumi Armada that its Kraken floating production, storage and offloading (FPSO) vessel would receive “significantly reduced rates” pending the resolution of its technical problems. Assuming a 5% cut in Kraken’s bareboat charter could reduce our FY17F-FY18F earnings by 24%-25%.

• UK-listed EnQuest, which has a market capitalisation that is 43% of Bumi Armada, has cut its full-year production guidance by 18%-27% to 37,015 barrels of oil per day from an earlier estimate of 45,000 to 51,000 barrels per day.

• This is due to teething problems with the Kraken FPSO’s onboard system, which has to be reliable enough to extract oil at its field in the North Sea. Recall that Enquest had awarded a US$1.8bil FPSO charter for an initial 8 years (which includes 17 years of optional extension) to Bumi Armada back in 2013.

• Amjad Bseisu, chief executive of EnQuest, described the Kraken FPSO as a “complex vessel” that simply needed “fine-tuning”, and not a design problem. The company insisted the “operational issues” would not persist beyond this year and the performance of individual oil wells at Kraken had so far been better than expected.

• EnQuest’s restructured debt, currently at US$1.9bil, has loan covenant tests at the end of each quarter which include lower net debt/EBITDA level each year.

• As we had been forewarning of potential problems with the Kraken FPSO contract, including the unresolved late delivery penalties, this development is not a significant surprise to us.

• Recall that some of Kraken’s undisclosed late delivery provisions were only up to the backstop date of 1 April 2017 which was later extended to 1 July this year as first oil was achieved on 23 June this year. The backstop date gives the client the right to terminate the charter. With penalties potentially accruing at US$6mil/month, negotiations are still unresolved with the client Enquest.

• While the group’s earnings from 2QFY17 onwards could potentially improve from the full recognition of the floating production storage and offloading (FPSO) vessel Armada Olombendo, which achieved first oil on Feb 8 this year, we remain cautious on the company’s near-term earnings trajectory given the uncertain penalties which could arise from the delays in the commencement of the FPSO Kraken’s contract, together with lower-than-expected charter payments.

• Any improvement in OSV utilisation, currently with charter rates just above EBITDA breakeven levels, will be gradual against the backdrop of the prevailing oil price. The stock currently trades at a fair FY17F PE of 15x vs. the sector’s 20x due to lingering risks on 2HFY17 earnings recovery.

Source: AmInvest Research - 25 Aug 2017