We returned from the meeting with Reach’s management with slightly better outlook premising on (i) higher production in 2H18 led by ESP upgrades and NK-1 & NK-2 trial production, (ii) cost savings from logistic improvement via new oil terminal. However, the company is still in need of external funding up to USD100m to repay its outstanding deferred consideration and discretionary capex. While keeping our FY18 estimates, we increase FY19-20 earnings by 13%-11% on lower cost of operations. Maintain HOLD rating with higher DCF derived TP of RM0.35.

We Recently Had a Meeting With Management and Below Are the Key Meeting Takeaways.

Higher production in 2H18. Reach’s 60% owned Emir Oil fields are currently producing c.3.4k bbl/day, which is higher than average 2.9k bbl/day in 1H18. We understand that the management is targeting to increase the production to 5k bbl/day by end-18 with several growth drivers such as electrical submersible pumps upgrades and NK-1 & NK-2 trial production period approval.

Capex guidance. Management has earmarked non-discretionary capex spending of USD9m and USD14m for FY18-19 respectively which involves six exploration wells. Note that these amounts are only payable to the service provider 18 months later. Meanwhile, there are also discretionary capex of USD13m (for completion of CPF) and USD31m (development activities) for FY18-19, which are subject to funding availability.

External funding needed. Reach is looking to raise funds up to USD100m to repay the USD44m outstanding deferred consideration and USD44m discretionary capex with debt financing being the preferred option. At this juncture, equity funding may not be an attractive option to the company.

Cost of production is likely to be similar to 2Q18’s USD8/bbl level in 2H18 with higher workover cost to rejuvenate inactive wells masking cost savings (USD2/bbl) from logistic improvement via new oil terminal (Angsagan). On the other hand, FY18 bottomline is hit by interest cost of USD11m at 5% interest rate on USD116m shareholder loan and 10% (stepped up to 14% by Nov) on unpaid consideration of USD44m.

Forecast. We maintain our RM36m FY18 loss forecast which already imputes narrowed losses in 2H18 on higher production. We increase our FY19-20 earnings by 13%-11% to RM18.3m and RM40.2m respectively on lower cost of production and logistics cost. We reckon that Reach will achieve breakeven at >4k bbl/day level after stripping off forex fluctuations.

Maintain HOLD, TP: RM0.35. Overall, we are positive on the operational improvement in 2H18 and FY19 with higher production but future growth beyond that is capped unless external funding is secured. Post earnings adjustment, we maintain HOLD recommendation with higher DCF derived TP of RM0.35 (from RM0.28).

Source: Hong Leong Investment Bank Research - 14 Sept 2018