• Naga 7 awarded new contract by Petronas Carigali

• Utilisation of jack-ups should gradually improve in next few quarters but Naga 1 expiry is a big drag to revenue

• Possible impairment is a risk but looks to have been discounted at current price

• Maintain NEUTRAL at unchanged TP of RM5.15/share

Awarded new rig contract. UMW's 51% owned UMW Oil & Gas (UMWOG) was awarded a drilling contract by Petronas Carigali. The group will utilise Naga 7 (which is currently idle) for the contract. While rates were not disclosed, we think it should be close to market rates of around USD75K/day. Our projections already factor in a renewal for Naga 7 in FY17F and therefore remain unchanged.

Partly makes up for Naga 1 expiry. UMWOG’s jack-up rig fleet will see gradually improved utilisation in FY17F as 4 of the 7 jack up rigs have now secured contracts. This compares to the trough when only 1-2 jack-up were operational. However, UMWOG’s only semi-submersible rig (Naga 1) which commands more than triple the day rates for jack up rigs saw expiry last quarter and this would drag UMWOG revenues until another 2 jack-up rigs gradually become operational in 1Q17 and 2Q17.

Recommendation. Maintain NEUTRAL on UMW at unchanged TP of RM5.15/share for now with possibly slight downside bias. Share price has taken a beating in the past few months since its poor 3Q16 results.

Possible asset impairment in the upcoming 4Q16 result will drive down book value and is a key risk to our BV-based valuations. Based on last year’s impairment of RM338m, this will reduce our FY16F/17F by circa 6% and reduces our TP to RM4.85/share. Our forecasts have already factored in core net losses of RM161m (excluding asset impairments) for both FY16F and FY17F and we are already at the lowest end of consensus. Still, market price of RM4.45/share is at a 9% discount to the estimated post-impairment book value of RM4.85/share (implying 0.9x FY17F PBV post-estimated impairments) suggesting the market may have already discounted the risk of the impairment. In this regard, we see trading opportunities arising for the short-term. The impact on net gearing and borrowing capacity from the resultant reduction in equity should not be too significant i.e. an increase in net gearing from 47% to 49%.

Source: MIDF Research - 5 Jan 2017