Being the world’s 5th largest FPSO player, ARMADA, in our opinion, is worth a second look despite the recent uncertainties in its OSV and T&I and the changes in top management. While we concur that the O&G industry will be more challenging moving forward, the group’s earnings will be anchored by its sizeable firm order book of RM25.6b mainly underpinned by FPSO jobs. Risks of renegotiation of terms for firm FPSO contracts are relatively low as the FPSO contract terms favors the FPSO contractors with protective clauses built in. Beyond 2015, ARMADA is poised to stage phenomenal growth with its earnings base forecasted to double from RM367.7m in FY14 to RM833.3m in FY17 when full-year contributions from its FPSOs under conversion kicks in. Current valuation looks attractive with CY16/17 PER of 14.2/8.0x, at substantial discount to YINSON (OP; TP: RM3.89), its closest local peer. Initiate coverage with OUTPERFORM rating and SoP-driven TP of RM1.55.

The 5th largest FPSO leasing company. ARMADA mainly builds leases and operates Floating Production Storage & Offloading (FPSO) in the worldwide offshore market and it is the 5th largest player in the world with 6 FPSOs in operations currently. It has presence in South-East Asia, Africa and also Europe, giving it diversified geographical coverage. Complementing its core business, the group also has an in-house Transport & Installation (T&I) division to support FPSO installation and provision of subsea construction services. It is also one of the largest Offshore Supply Vessel (OSV) owners in Malaysia with 54 OSVs currently in service with half of its fleet operating in countries outside of Malaysia.

Sizable order book. During turbulent times in the O&G industry, orderbook size matters for players to sustain earnings continuity. ARMADA possess RM25.6b worth of firm order book excluding extension options. This is enough to keep the group busy for the next two years and we opine that it would not be looking to secure any big FPSO jobs in the near-term to focus on existing projects instead. In addition, its pipeline of FPSOs to be delivered also indicated that the group is slowly breaking into the higher-end FPSO category with higher daily oil production capacity but still below 100,000bbl/day threshold to avoid over complexity of project. This will allow the group to capture a bigger slice of the FPSO market as more deep water field development may drive demand for larger FPSOs.

Poised for period of high growth. While FY15 would be a year of consolidation for the group as it seeks to rationalize its operations and cut costs, FY16 and FY17 would be when strong growth in earnings kicks in postcommencement of several FPSO charters. In FY17, maiden full-year contribution from FPSO Kraken, Olembendo, Rainbow and FSU Malta is expected to double the group’s earnings base to RM833.3m from RM367.7m in FY14 assuming conversion of FPSO vessels is completed as scheduled. This is based on the assumption of flattish DCR for its OSV division with small improvement in vessel utilisation in FY16 and FY17. Further earnings upside could be realized if rates improve further.

Valuation at huge discount. At its latest closing price, the stock is valued at CY16/17 forward PER of 14.2x and 8.0x, respectively, implying a 30.0% discount to its closest local peer, YINSON, which is smaller in terms of fleet size and has shorter operational track record compared to the group. Given the past experience of the group in the FPSO business and larger scale, we believe ARMADA deserves valuation that is at least on par with its peer.

Initiating with OUTPERFORM at RM1.55/share. We issue an OUTPERFORM rating on the stock with SoP-derived TP of RM1.55/share implying FY16/17E PER of 19.4/10.9x. We chose to value its FPSO business employing DCF methodology to reflect its long-term cash flow generating ability while its OSV and T&I businesses are valued at 9.0x forward CY16 PER, which is conservative given that it is in line with average smaller O&G peers under the current oil price scenario. Risks to our call include: (i) FPSO project execution risk (ii) financing risk, and (iii) further severe dip in oil prices.

Source: Kenanga Research - 1 Jul 2015