We believe ARMADA will be re-rated should the company successfully hit first oil for the Kraken project by July, alleviating investors? concerns of further late delivery charges. Following its strong turnaround quarter, we increased our FY17-18E earnings by 13-18% with the expectations of strong quarters ahead backed by contributions from the new projects. Thus, we upgrade the stock to OUTPERFORM call with higher SoP-driven TP of RM0.90/share post earnings adjustment and rolling over valuation base year to FY18.

Above expectations. ARMADA?s 1Q17 core net profit of RM77.9m came above expectations at 28% of both our and street?s full-year estimates. The positive deviation is mainly due to stronger-than- expected contribution from FPSO segment (including JVs) and lower depreciation. No dividend was declared as expected.

Returning to the black. Sequentially, ARMADA returned to the black this quarter from a core net loss of RM163.3m in 4Q16 after stripping off net allowance for doubtful debts written back of RM8.7m, fair value gain on derivative financial instruments of RM1.3m and unrealised forex loss of RM39.8m, in line with a 97% surge in revenue led by contribution from Armada LNG Mediterrana, Armada Olombendo, higher JV contribution (Armada Sterling and Sterling II) as well as better OMS contribution largely underpinned by lower depreciation charge despite poorer vessel utilisation (42% vs 48% in 4Q16) and lower activities from LukOil project.

Doubling earnings YoY. 1Q17 earnings also doubled from RM37.0m in 1Q16, thanks to maiden earnings contribution from Armada LNG Mediterrana and Armada Olombendo masking weaker contribution from OMS segment led by lower activities from LukOil project as well as supplementary payments made for Kraken project. Note that depreciation charge was down by 44% YoY following multiple impairments made in FY16.

Kraken aiming to hit first oil by July. We are guided that ARMADA is targeting to hit first oil by July for Kraken FPSO. While Armada LNG Mediterrana is already on hire, Armada Olombendo and Karapan Armada Sterling III are working towards full acceptance after achieving first oil in February and May, respectively. On the other hand, both OSV and T&I segments? earnings are expected to stay lacklustre in the medium-term with continuous downside pressure on DCR given that the OSV oversupply might not be neutralised in near-term.

Upgraded FY17-18E earnings by 13-18% to account for: (i) higher JV earnings contribution from Arrmada Sterling and Armada Sterling II, (ii) lower depreciation, and (iii) higher earnings contribution from Armada Olembendo factoring higher charter rates recognised between first oil and full acceptance as well as Armada LNG Mediterrrana.

Upgrade to OUTPERFORM. Despite earnings adjustment and rolling forward our valuation base year to FY18, we have increased our SoP- driven TP to RM0.90 from RM0.73. We have upgraded ARMADA to OUTPERFORM in view of better QoQ earnings improvement with Kraken in the picture. Our TP of RM0.90/share implies 12.6x FY18 PER and 0.8x FY18 PBV, which is in line with the industry sector valuation.

Downside risks to our call include: (i) FPSO project execution risk, and (ii) weaker-than-expected margins.

Source: Kenanga Research - 01 Jun 2017