• Keep SELL and MYR0.02 TP, 56% downside. 1QFY23 (Jan) results were a positive surprise on a better performance from the engineering & construction (E&C) wing. Post earnings adjustments, we expect net losses to narrow in FY24 with the anticipation of improvements in all segments. That said, we reiterate our SELL call, as a holistic debt and equity restructuring – which is highly dilutive in our view – is inevitable for Sapura Energy to be out of the woods.

• Above expectations. The 1QFY23 core loss of MYR84m (after stripping off a MYR176m FX gain) came in above expectations at 13% and 14% of our and Street full-year forecasted losses, thanks to better-than-expected E&C margins, led by higher claims and liquidated damages reversals from clients.

• Results review. 1QFY23 revenue improved by 96% QoQ with the absence of recognition of foreseeable losses and higher project costs in 4QFY22. As such, SAPE’s core loss narrowed by 93% QoQ thanks to a lower cost provision as well as higher claims and liquidated damages reversals from clients for E&C projects. 1QFY23 core losses widened by 6.3x YoY due to weaker drilling (lower rig utilisation) and lower E&C project billing. This is partially cushioned by the better numbers from the operations & maintenance (O&M) division due to lower operating costs.

• Outlook. Following the recent MYR2.7bn contract win, SAPE’s orderbook improved by 26% QoQ to MYR8.3bn. The drilling segment is expected to improve gradually from the current eight rigs being operational to 10 by end FY23. Management guided that offshore contractors are expecting better contract terms in the upcoming new tenders with better risk propositions than legacy contracts awarded previously. However, it stays cautious over operational challenges like rising cost pressure. Overall E&C margins could improve next year with legacy contracts likely to reduce substantially. In view of its stretched cash flow, SAPE is targeting contracts with relatively lower working capital requirements. For the energy arm, net lifting fell by 10% QoQ to 2.7mboe due to an unplanned shutdown at the Malaysia Liquefied Natural Gas or MLNG complex at Bintulu, Sarawak, which is expected to resume operations by Aug 2022. Debt restructuring with lenders and scheme of arrangement discussions with creditors are ongoing. Cash conversation via continuous cost optimisation and asset monetisation initiatives are also top priorities. We believe assets in the O&M and energy arms could be in the forefront of the sales pecking order.

• SELL. We reduce FY23F-25F losses by 14% on better E&C margins. Our SOP-based TP is kept at MYR0.02, assuming 20% of total debt was converted to equity based on a conversion price of MYR0.10/share. Our share base is enlarged by 21.4bn or 1.2x. Our TP also includes a 6% discount applied based on our ESG score of 2.7. Upside risks: Better-than- expected project execution and stronger-than-expected contract flows.

Source: RHB Research - 28 Jun 2022