We came away from a meeting with DIALOG feeling largely optimistic. This is underpinned by: (i) its tank farm business which is boosted by new business from Australian and New Zealand importers, (ii) downstream margins are expected to remain stable and gradually improve from FY25E, and (iii) major expansion plans remain on track. We maintain our forecasts, TP of RM3.10 and OUTPERFORM call.

New businesses emanating from Australia and New Zealand. DIALOG’s midstream tank terminal business is doing well, evident from high utilization rates exceeding 90%. Additionally, spot rates for its independent terminals are currently robust, at above SGD6 per m3. In comparison, historical utilization of DIALOG’s terminals typically ranges lower at 70%-80%. The surge in demand is partly driven by Australian and New Zealand oil importers that use DIALOG’s terminals in Pengerang. To recap, following the pandemic, refining capacity in Australia more than halved given the closure of the Altona (capacity: 90k bpd) and Kwinana (138k bpd) refineries. Meanwhile, New Zealand’s sole refinery, Marsden Point (96k bpd) was converted into an import terminal in 2021. Hence to narrow the supply gap, imports of refined oil products into both countries have been ramped up. This, in turn, benefits DIALOG as traders utilize its storage tanks for fuel products bound for Australasia.

Margins expected to gradually inch up. We understand that margins for downstream contracts have stabilized over the previous 2 quarters. This is mainly due to the progressive completion of legacy contracts that did not price in higher costs from the current inflationary environment. To recap, in 2QFY21, DIALOG’s EBITDA margins peaked at 44% following the onset of the pandemic. Thereafter, quarterly margins tumbled consecutively until it troughed at 14% in 2QFY23. This was attributed to: (i) operations at DIALOG’s customers and suppliers derailed by the pandemic, and (ii) global supply chain gridlocks caused by the Ukraine Russia conflict. As a result, this had led to cost overruns and project losses due to: (i) higher material price and labour costs, and (ii) delays emanating from manpower constraints.

Nevertheless, DIALOG reassured that margins have now turned the corner. This is following the expected completion of older contracts by end-FY24E. For instance, the extension option on Petronas’ 5-year umbrella contract for plant turnaround and maintenance is due for exercise in CY24E. Moreover, for new contracts, DIALOG will incorporate higher pricing to reflect the current challenging environment.

Capacity expansion looming. DIALOG’s ambitious expansion plans in Pengerang and Tg Langsat remain on track. This is underpinned by: (i) new O&G facilities at the Pengerang Energy Complex (PEC), and (ii) traction in demand for storage of sustainable products. To recap, DIALOG plans to expand its midstream assets on its remaining landbank at: (1) Tanjung Langsat: 17 acres (200k m3), and (2) Pengerang Phase 3: 500 acres.

The group is currently courting customers to enter into long-term (at least 10 years) offtake agreements for dedicated storage in Pengerang. They include existing client, BP Singapore, new investors at the PEC, or international energy traders (e.g. Vitol, Trafigura, Vopak).

As such, we believe there will be potential interest from new investors at the PEC. They include Singapore-based ChemOne and China-based Rongsheng Petrochemical. Recall that Ronsheng committed to invest up to RM80b for a refining capacity in Pengerang. Meanwhile, ChemOne targets to launch its USD4b (RM18b) project at the PEC (completion mid-2026) to produce oil products and petrochemicals. Given the massive scale of these projects, their development period will likely be stretched. Nevertheless, in the near term, assuming the group is identified as a development partner, it will benefit from positive news flow when these projects reach final investment decision (FID).

Eyeing more sustainable capacity. Meanwhile, DIALOG is confident that it will be able to secure new customers to offtake capacity at Tanjung Langsat Terminal Phase 3 (capacity: 24k m3). This is given the robust demand for sustainable storage amidst limited market capacity. Recall that Phase 3 (completion: end-24) comprises storage facilities for low-carbon alternative fuels (i.e. biodiesel, sustainable aviation fuel etc). Moving forward, management alluded to the possibility of retrofitting its existing terminals in Tg Langsat Phase 1 & 2 to cater for sustainable fuels. Hence this would be positive for DIALOG’s ESG profile as well as margins. The latter is given higher tariffs for green storage vis-à-vis conventional tanks.

Forecasts. We maintain our forecasts as we have baked in expectations of a gradual recovery in EBITDA margins, as well as average midstream utilization rates of 90%.

Maintain OUTPERFORM, with unchanged SoP-TP of RM3.10. There is no change to our valuation based on ESG given a 3-star ESG rating as appraised by us (see Page 5).

We like DIALOG due to: (i) its resilient non-cyclical earnings with multi-year growth prospects from future capacity expansion, (ii) active diversification into upstream production assets enables the group to capitalize on oil price rallies, and (iii) near-term earnings expansion from Tanjung Langsat Terminal Phase 3 that is targeted for completion by end-CY24.

Risks to our call include: (i) prolonged and intensifying cost pressures, (ii) delay in capacity expansion plans, and (iii) reduced utilization of tank terminals.

Source: Kenanga Research - 9 Aug 2023