Hungry for New Ancillary Businesses. Pet Gas is diversifying its ancillary business revenue streams to include: (1) LNG bunkering (target: 1Q20) at Regasification Terminal (RGT) Sungai Udang, (2) LNG truck loading (target: 2020) at RGT Pengerang (RGTP) and (3) RM150mn Nitrogen Gas Unit 3 at Kertih (target: 1Q21). Additionally, management hinted at a new LNG virtual pipeline track. These services will add to Pet Gas’ existing portfolio of ancillary services, which include: (1) Gassing Up Cooling Down (GUCD) for LNG carriers at RGTP (start: Apr-19), (2) Reloading at RGTP (start: Aug-19), and (3) steam contract (start: Apr-19). Contribution from these businesses are largely insignificant to Pet Gas at this juncture. However, management expects traction to accelerate following the full ramp-up of Petronas Chemicals’ RAPID complex in 4Q19-1Q20. We believe this would partially cushion earnings erosion (if any) from implementation of Third Party Access (TPA) tariffs in 2020.

4Q19 Sequential Recovery on the Cards. Management guided for a sequentially stronger 4Q19 on the back of: (1) recovery of operations at Kertih Air Separation Unit (ASU), (2) lower repair and maintenance (R&M) costs given a seasonally quiet 4Q, and (3) improved associate contribution from Pengerang Gas Solutions due to gradual ramp-up at RAPID, and (4) higher utilization at Kimanis IPP following completion of planned maintenance for a generation block. In particular, R&M activities were exceptionally higher in 3Q19 across all segments. Nevertheless, management expects this to normalize in 4Q19, and potentially reduce in 2020. Recall that Kertih ASU underwent a plant turnaround for approximately 30 days in 3Q19. This was a statutory exercise required by DOSH (Department Of Occupational Safety And Health) after every 3-year interval. Nevertheless, Pet Gas has requested DOSH to extend this maintenance period to 6 years moving forward.

Santong Fire No Big Deal. According to management, there was minimal financial and operational impact in relation to a minor fire incident in Jul-19. To recap, the latter occurred at one of the Group’s gas processing plants (GPP) at Paka, Terengganu. The fire was confined to one of the plant’s De-Methanizer Column equipment, and was completely extinguished after approximately 8-9 hours. Product deliveries to Pet Gas’ client remained intact due to the integrated operations of the GPP complex. Therefore, the Group is still able to exceed its performance incentive for 9M19.

Uncertainty is Unnerving, Whilst stock valuations are subdued, we are cautious of earnings downside risk emanating from implementation of TPA. In particular, this applies to gas transportation assets. Valuation methodology of these assets will transition progressively from Optimized Replacement Costs (ORC) to Historical Cost (HC) by end of RP2 (estimate: 2024-26). Given that ORC translates to circa 3x of HC, this implies potentially lower TPA asset base (assuming no new investments), and hence reduced earnings. Additionally, there is also a likelihood of a reduction in allowed asset returns to match that of Pet Gas’ other regulated peers. Given lingering uncertainty, we maintain Sell on Pet Gas with unchanged Sum-of-Parts target price of RM15.50.

Source: TA Research - 20 Nov 2019