We attended Velesto’s FY19 analyst briefing. Worldwide rig demand for FY20-21 remains robust. Velesto has proposed to undertake a capital reduction exercise to pave way for dividend payments in future. Velesto remains on track to hit >80% utilisation rates in FY20 (vs. 80% FY19) as most SPS activity has been undertaken in FY19. Maintain our BUY call and TP of RM0.46 based on 1.3x FY20 P/B multiple or +1SD above its 5 year mean P/B (from 0.9x FY19 P/B), The jack up rig market is on an upswing, with firm drilling schedules in place against a backdrop of rising DCR’s.

We attended Velesto’s FY19 analyst briefing; the following are some of the key takeaways.

Recap. 4Q19 revenue of RM178.1m (-15% QoQ, 6% YoY) with core PATAMI of RM8.0m (vs. 3Q19 -76%; 4Q18: -69%) brought FY19 back to black with a core PATAMI of RM30.4m (vs. core loss of -RM14.9m SPLY). Still, the results were below ours and consensus expectations. The deviation in namely from a lower utilisation rate due to a slight change in drilling schedule during the 4Q.

Supply-demand dynamics. Worldwide rig demand for FY20-21 remains robust at 393-384 as of Jan-20 with half of it coming from Middle East and India. Of the 452 available jack-up rigs available globally, 13% of it remains idle as of Jan-19. It is understood that there are potential 47 rigs coming out from the yard in the next 3 years. The actual number of delivery would be lower than projection depending on the ability of clients to secure financing or paying a lump sum amount. Management remains confident that the supply demand dynamics will improve in the longer run as 30% of the global rig fleet (154) are aged more than 30 years, indicating that significant number of rigs will be scrapped in the long term.

Charter rates. Velesto achieved average daily charter rates (DCR) of USD70k/day in FY19 vs. USD69k/day in FY18. Throughout FY19, management has managed to secure contracts on USD80k-USD100k/day (inclusive of mobilisation costs) which commensurate more with the regional rig rates (USD80k-USD85/day). Management are in active discussion to renew N2, N3, N5 and N6 which will come up for renewal mid-CY20. We can expect the rates to converge to the regional rates for these rigs.

Ready for dividends. Velesto has proposed to undertake a capital reduction exercise. It proposed to offset RM2.2bn of its issued share capital against its accumulated losses of RM2.1bn as at FY19. We view this in a positive light as it sets the company up for potential future dividend payment in view of its return to profitability and positive free cash flows.

Outlook. In FY20 we remain upbeat on the prospective renewed terms for rigs coming off contracts moving forward (N2, N3, N5, N6 will come up for renewal mid CY20). Furthermore, Velesto remains on track to hit >80% utilisation rates in FY20 (vs. 80% FY19) as most SPS activity has been undertaken in FY19. A stronger USD (vs MYR) also bodes well for Velesto in FY20.

Forecast. We keep earnings unchanged as FY20-21 will have improved drilling schedules due to significantly less incidences of SPS activity, this should see an uptick in utilisation rates.

Maintain BUY, TP: RM0.46. Maintain our BUY call and TP of RM0.46 based on 1.3x FY20 P/B multiple or +1SD above its 5 year mean P/B (from 0.9x FY19 P/B), The jack up rig market is on an upswing, with firm drilling schedules in place against a backdrop of rising DCR’s.

Source: Hong Leong Investment Bank Research - 27 Feb 2020