Highlights

• Upstream down as expected … Petronas 4QFY15 PAT excluding identi fied items came in at RM9.9m, down 21% YoY due to lower Upstream earnings in conjunction with crude oil price plunge. Crude oil, condensate and natural gas production volume dropped 1.4% YoY to 2.326m boe/day from 2.359m boe/day due to lower production entitlement from Iraq and natural decline. LNG sales volume was 4% higher due to higher 3rd party sales despite lower production by LNG Complex in Bintulu, Sarawak.
• Downstream flourished with PAT rising by 33% YoY despite a slight drop petrochemical product sales volume due to stronger refining and marketing margins on the back of favourable crude oil and chemical product prices. Putting it into perspective, downstream PAT margins improved to 6.3% from 1.1% in the corresponding quarter a year ago.
• CAPEX cut not as high as anticipated… For FY15, CAPEX spent by the group was down by 9.1% to RM64.6b, lesser than the expected 20% cut as announced earlier. Majority of the CAPEX was spent on acquisition of Statoil’s Shah Deniz assets, RAPID project and smaller amount in Upstream investments. We believe with the absence of further Upstream asset acquisitions and cuts in Upstream development, its target RM50b cut per annum over the next 4 years could be met. Anticipated CAPEX per annum for RAPID is circa RM24.3b (assuming total project cost of RM97b over next 4 years).
• Much lower spending in 2016… Assuming RM12.5b cut in CAPEX and RM16b dividend commitment, the group is left with only RM11.8b to be spent on upstream whereby most of it is expected to be channelled to production enhanced on existing field to prevent natural decline in oil production.
• Upstream-related players affected… n our opinion, all of the upstream-related service players including rig, OSV, installation and fabricator would be adversely affected by this situation with more cost cuts expected to feed into their existing contracts. Asset-heavy players (jack-up rig & OSV) remain as the most exposed to this development due to their high fixed cost structure which is difficult to be adjusted downwards in short span of time. We still prefer FPSO player in view of robust FPSO contract terms and downstream fabrication player on expectations of newsflow in the downstream sector.

Rating

NEUTRAL

Positives

• Capex plan from oil operators to continue to maintain oil and gas production.

Negatives

• Delay in contract rollout and low oil price envi ronment lead to competition and margin compression.

Valuation

• Top picks: Big Cap: Armada / Mid to Small cap: KNM

Source: Hong Leong Investment Bank Research - 1 Mar 2016