Despite impairment dragging reported numbers into the red, core net profit was actually satisfactory, leaping 22%/71% YoY/QoQ, thanks to higher uptime from Armada Kraken FPSO. Given the long-term contracting nature of the FPSO business, ARMADA should be relatively impervious to the current oil market down-cycle. Upgrade to “trading” OUTPERFORM, with TP of RM0.30.

Within expectations, despite reported losses. ARMADA reported 1QFY20 losses of RM224m, dragged by an impairment charge of RM314m. The impairment was a result of the challenging backdrop currently plaguing the oil and gas industry, thereby necessitating a devaluation of its offshore marine services (OMS) assets, in anticipation of lower charter rates and utilisations. Nonetheless, stripping-off the impairment and other non-core items, 1QFY20 core net profit of RM90m actually came broadly within expectations, at 29% of ours and 31% of consensus full-year earnings projections. No dividends were announced, as expected.

Hugely improved earnings, thanks to Kraken. YoY, 1QFY20 core net profit increased 22%, thanks to improved uptime in Armada Kraken FPSO, coupled with higher OSV utilisation of 56%, versus 39% last year. Sequentially, core net profit surged 71% QoQ, mainly attributed to higher uptime in Armada Kraken FPSO, coupled with lower operation and maintenance costs for Armada Olembendo FPSO. However, these were partially offset by: (i) decrease in OMS segment due to lower usage of third party vessels, despite improved fleet utilisation of 56% versus 54%, and (ii) lower joint venture contributions due to a recognition of deferred tax expenses arising from temporary differences on finance lease receivables.

Positive signs ahead, despite the impairment. While the impairment charge was unfortunate, we do note that the charge was made on its OMS segment – a business where the company is strategically trying to gradually exit as its short-term contracting nature gives a degree of unpredictability to the company’s earnings and cash flows. The segment only contributed <2% of the company’s core EBITDA during the quarter. Conversely, things are seemingly improving for its main segment of floating production and operations (FPO). Armada Kraken FPSO has continued to improve on its uptime availability, after suffering numerous operational complications upon its commencement. In fact, Kraken-related term loans of ~RM1.3b have successfully been reclassified as long-term debt, from short-term debt previously, signalling client’s confidence as well as stability in the project.

Upgrade to “trading” OUTPERFORM (from UNDERPERFORM previously), with higher TP of RM0.30, pegged to 5x PER on FY21E at - 0.5SD below its 12-month mean valuation (versus previous TP of RM0.13, priced at “floor” valuations of 0.2x PBV at -2SD from mean). No changes to our FY20-21E numbers post-results. Given the long-term contracting nature of the FPSO business, ARMADA should be one of the few names that are somewhat impervious to the current oil down-cycle. However, we are not entirely comfortable with the company’s high net-gearing of 2.9x, and hence, would suggest a “trading” approach towards the stock, rather than a long-term “buy-and-hold” strategy.

Risks to our call include: (i) poorer-than-expected margins, (ii) costs overrun, (iii) poorer-than-expected asset uptime and utilisation, and (iv) failure to monetise unutilised assets.

Source: Kenanga Research - 1 Jun 2020