2Q19 managed to turn to black (broadly in-line of expectations), driven by improved jack-up rigs utilisation (74%). That said, expect a much stronger 2H19 from its onhand contract schedules. Maintain OUTPERFORM with TP of RM0.35, given its turnaround story with clear earnings visibility for the next 1-2 years, coupled with limited downside risks. Furthermore, it is also an ESG play within the O&G sector, being a member of the FTSE4 Good Bursa Malaysia Index.

1H19 broadly within expectations. VELESTO recorded 1H19 core losses of RM10.9m – deemed broadly within expectations against our full-year earnings forecasts of RM15.2m and consensus of RM25.1m, as we anticipate a much stronger 2H19 given the company’s rigs contracting schedules. No dividends were announced, as expected.

2Q19 turns to black. 2Q19 had managed to turn to black by recording a core net profit of RM11.8m, with jack-up rigs utilisation of 74%. YoY, this was a turnaround from losses of RM20.2m, driven by the higher utilisation (74% vs 59%). QoQ, similar turnaround from losses of RM22.8m, driven by improved utilisation (74% vs 66%). Cumulative YTD, 1H19 core losses narrowed 67% given improved utilisations (70% vs 62%). Meanwhile, daily charter rates had remained somewhat flattish since 2017 (at around ~USD70k/day).

Expected turnaround in FY19/20. Moving forward, we are expecting a much stronger 2H19, given the company’s rigs contracting schedules to drive higher utilisations and bring full-year earnings to a black. Our numbers are based on a utilisation assumption of 80%/85% for FY19/20E. Given the certainty of its turnaround story, the company had also proposed an ESOS scheme, which may result in a share base dilution of up to 7.5%, although no further details have been disclosed yet. Overall, we highlight VELESTO as a beneficiary of Petronas’ increased drilling rig demand, being the largest jack-up rig player in the country by far.

Maintain OUTPERFORM, with an unchanged TP of RM0.35 pegged to 1x PBV on FY20E – roughly in-line with its 2-year mean valuations. Post-results, we made no changes to our FY19-20E numbers. We continue to like VELESTO given the certainty of its turnaround story, clear earnings visibility for the next 1-2 years, while we also see limited downside risks from current share price levels. Additionally, the company reportedly had also demonstrated satisfactory environmental, social and governance practices, being one of the new names within the oil and gas industry to be included into the FTSE4Good Bursa Malaysia Index. That said, we believe a range-bound trading strategy of RM0.30-0.35 would suite the stock.

Risks to our call include: (i) poorer-than-expected rigs utilisation, (ii) weaker-than-expected charter rates, and (iii) lower-than-expected margins.

Source: Kenanga Research - 3 Sept 2019