ARMADA’s 1HFY23 results missed expectations due to higher than-expected loss of charter incomes and repair costs from the shutdown of FPSO Kraken in 2QFY23. We expect more stable earnings outlook moving forward on normalisation of Kraken’s operation. We cut our FY23F earnings by 8%, lower our TP by 3% to RM0.60 (from RM0.62) but maintain our OUTPERFORM call.

Missed due to Kraken’s downtime. Its 1HFY23 core net profit disappointed, coming in at only 33% and 26% of our full-year forecast and the full-year consensus estimate, respectively. The variance against our forecast came largely from higher-than-expected loss from FPSO Kraken’s production shut-in during 2QFY23. Chunky exceptional items excluded from core net profit include disposal gain on PPE (RM60.1m) recognized in 2QFY23.

To recap, back in 29 May, production at Kraken went offline following failure of its third hydraulic submersible pump (HSP) transformer unit. Subsequently, in 11 June, the FPSO achieved start-up and was able to operate at circa 60% of pre-shutdown levels. Thereafter, in Jul-Aug, two more HSP units were refurbished and restarted. Following this, the vessel’s operations were partially restored to 90% and finally 100% of pre-shutdown levels in 7 Aug.

Dragged by Kraken’s repair costs and loss of charter income. Its 1HFY23 topline contraction (-14% YoY) was mainly attributed to Kraken’s shutdown that resulted in partial loss of charter income. Meanwhile, the larger decline in bottomline (-40% YoY) reflects the above as well as: (i) associated repair and refurbishment costs for Kraken’s HSP transformers, (ii) lower contribution from joint ventures due to reversal of tax provisions, and (iii) lower subsea construction contract work in the Caspian Sea as the project nears completion.

Briefing highlights. Key takeaways from ARMADA’s analyst briefing include the following:

1. Two new HSP transformers will be installed on board Kraken in September. This will add to the current three working HSP units to enhance the vessel’s reliability. The root cause analysis report for this incident is currently in progress.

2. There will be no planned shut down for Kraken for the remainder of FY23 as key maintenance activities originally scheduled for 3QFY23 were completed during its shut-in period.

3. We understand that the bulk of the financial impact arising from Kraken’s shutdown was recognized in 2QFY23. Based on our estimates, this amounted to circa RM150m in 2QFY23. Moving forward, ARMADA expects residual impact of c. RM30m-RM40m in 3QFY23.

Leading contender for USD1b EPCC project. According to Upstream, ARMADA is front runner for TotalEnergies’ Cameia FPSO project. It comprises an engineering, procurement, construction and commissioning (EPCC) contract with estimated value of at least USD1b. This project, which is located offshore Angola, is expected to be awarded by year-end. Meanwhile, the global FPSO market remains robust – where Clarksons’ anticipates an all-time high award of 11 newbuild FPSOs in 2023 with total value in excess of USD19b. This will be mainly driven by Brazil (five potential orders), Guyana (two contenders), and West Africa (four prospects). Given its deleveraged balance sheet, ARMADA is well positioned to bid for new FPSO assets.

Forecasts. We cut our FY23F earnings by 8% to reflect the actual impact of Kraken’s shutdown.

Consequently, we trim our TP by 3% to RM0.60 (from RM0.62) based on Sum-of-Parts valuation. Our valuation reflects a 5% discount to factor in a 2-star ESG rating as appraised by us (see Page 5).

Moving forward, we expect ARMADA to start afresh on a clean slate following removal of uncertainties surrounding Kraken’s actual financial impact.

We like ARMADA due to: (i) traction in efforts to reduce its net gearing (current: 0.7x), (ii) its long-term earnings visibility from substantial orderbook in excess of RM20b (including extension options), and (iii) it being the leading contender for a USD1b EPCC contract for FPSO Cameia.

Risks to our call include: (i) offshore projects push to the back burner due to weak crude oil prices, (ii) cost overruns and delays for EPCC contracts, and (iii) clients do not exercise contract extensions for the FPSO fleet.

Source: Kenanga Research - 28 Aug 2023