The recent pandemic has unveiled yet another crisis for the sector, and this time around, worse off. Instead of global supply worries in the past, we have demand issues. In the past couple of months, we saw global oil majors cutting capex, suspending dividends and share buybacks. Back home, Petronas’ move to cut capex and opex signals yet another challenge for local players, which will affect new contracts and work activities. The liquidity-driven market led us to believe that certain stocks are unlikely to revisit their previous lows. Thus, we revisit our valuation metrics and upgrade MISC, Petronas Gas and Kelington to Holds (from Sells) and move the sector to a Neutral (from Underweight). Top buy: Dialog.

Local Activities to See a Slowdown With Capex Cuts

Total contract value announced in 5M20 declined 36.4% yoy to RM11.4bn. While Petronas aims to maintain domestic capex at RM26-28bn on the back of cutting total capex by 21%, we believe that local contracts awarded would not escape the fate of a slowdown. The segments most heavily dependent on capex include rigs, offshore support vessels, fabrication, and would likely be the most severely impacted.

Sector Balance Sheet and Those Facing Short Term Liquidity Risk

Referring to our heat map (Figs14&15), Sapura Energy and Wah Seong both have huge deficits to pay their short term debts falling due, taking into account their current cash positions and historical operating cash flows (OCF). On a positive note, we believe most small-and mid-cap companies are in a better position to weather the crisis with stronger balance sheets as compared to prior crisis. 1Q20 OCF declined by 26% on average yoy, which we suspect could worsen with the pandemic restricting work activities, higher operating costs and slower collections. With oil prices remaining low, kitchen sinking exercises could see an increase in net gearing and a derating of sector valuations.

Expect Brent Oil Price to Trade in the Range of US$30-35/bbl

We have our reservation on the oil market rebalancing in 3Q20 given that we do not see global demand recovering quickly as air travel is unlikely to be as robust as before with jet fuel making up 8% of total oil consumption. The shift towards remote working in the near term would likely put a dent on consumption as well. Any setback in the current production cut deal would likely derail the oil market rebalancing. Our Brent oil price assumption for 2020 remains unchanged at US$30-35/bbl. We expect prices to remain flattish at US$35/bbl going into 2021.

Upgrade TPs and ratings on MISC, PetGas and Kelington, PCHEM and Dialog TP and downgrade Bumi

The ample market liquidity has helped lift sector valuations. We revisit some of our valuation metrics and upgrade MISC, Petronas Gas and Kelington

to a Holds (from Sells), subsequent to raising their target prices. We also raise our target prices for Dialog and PCHEM by 11-15% while maintaining their ratings. We downgrade Bumi Armada to a Sell (from Hold) as its share price has rallied following the strong 1Q20 core results. For sector exposure, we prefer defensive name like Dialog (raise TP to RM4.30) as it benefits from better storage utilisation and rates through its storage terminal exposure. Upgrade sector to Neutral (from Underweight) following our upgrades on the big caps.

Source: Affin Hwang Research - 5 Jun 2020