Post management meeting, we reiterate our positive view on Velesto to turnaround in FY18 backed by (i) sufficient local job demand to achieve FY18 average utilisation of 75%-79% and (ii) stabilising DCR at USD70k/day despite lower rig utilisation seen in 2Q18 (vs 1Q18’s 65% and 2Q17’s 68%). Global supply demand dynamics for jack-up rigs are expected to improve in the longer run helped by higher scrapping activities and continuous delay in new deliveries. With no changes in our estimates, maintain BUY recommendation on with unchanged TP of RM0.34 pegged to 1.0x FY19 PBV.

We had a meeting with management early this week and below are the key meeting takeaways.

Weaker utilisation in 2Q18. We gathered that Velesto’s rig utilisation for 2Q18 is expected to be lower (vs 1Q18’s 65% and 2Q17’s 68%) due to slight delay of the new contracts (Naga 3 and Naga 6). Thus, 2Q18 core net losses could be flattish/widened QoQ from losses of RM13.2m in 1Q18 but improved YoY from RM49.2m losses due to continuous cost optimisation, lower depreciation charge post massive impairment made in 4Q17 and lower finance cost. .

Full year average utilisation at 75%-79%. As a result, FY18 average utilisation could still average at 75%-79%, even though lower than its previous target of at least 80% underpinned by strong utilisation uptick in 2H18. Currently, all seven rigs are contracted with 4 rigs (Naga 3, 4, 5 and 7) kick starting their jobs in August. Orderbook stood at RM744m including RM240m extension options providing 1-year income visibility while tender book remains robust with 24 jobs estimated at USD512m, of which 11 are local jobs.

Local DCR stabilising at USD70k/day. Despite daily charter rates (DCR) for foreign rigs operating in Malaysia has improved to above USD60k/day level, local rigs’ DCR are expected to stay at USD70k/day level in the near term. On the global front, Velesto has gone through the technical bidding in Abu Dhabi but ended up walking away from the deal as the rates offered were too low to accept.

Uptick in rig demand. Worldwide rig demand for FY18-19 has improved to 349-380 as of June data (vs 338-378 as of April) with more than half of the demand coming from Middle East and India. However, this may still be insufficient to cater for all the 448 available jack-up rigs available globally (of which 27% of it remained idle as of June) coupled with the potential 90 rigs coming out from the yard in the next 3 years. Nonetheless, management is still confident that the supply demand dynamic s will improve in the longer run as 40% of the global rig fleet are aged more than 30 years, indicating that significant number of rigs could be scrapped in the longer run and provide significant boast to the DCR.

Forecast maintained. Despite the slight utilisation weakness in 2Q18, we are keeping our earnings estimates given our relatively conservative assumption of USD70k/day and average rig utilisation of 75%.

Maintain BUY, TP: RM0.34. Maintain BUY recommendation with unchanged TP of RM0.34 based on 1.0x FY19 PBV multiple. We like Velsto for being the largest domestic jack-up rig owner to benefit from the demand uptick in jack-up rig amid stabilisation of oil prices.

Source: Hong Leong Investment Bank Research - 25 Jul 2018