BACK when crude oil prices were trading at more than US$100 a barrel, many oil and gas companies expanded their businesses or capacity. There were also newcomers that paid hefty premiums to acquire oil and gas assets, hoping to make a fortune.
After hovering at US$100 since 2011, Brent crude oil plunged more than 50% to a low of US$46 a barrel last month. However, it rebounded last week, forming a new baseline of US$61 per barrel.
Apart from shrinking earnings, the substantially lower crude oil prices have raised concerns about the viability of the ventures these companies have invested in. Not only that, some of them may face an impairment of assets that were acquired at relatively high prices.
An industry analyst says companies will be required to revalue their assets every financial year, especially when there is an indication of impairment that may need to be addressed and in this case, weak market conditions.
“Hence, if the assets were to be revalued now, there could be impairment losses. This could be more prevalent among companies that own oilfields,” he says, adding that the risks differ between the upstream and downstream segments.
“The upstream segment has the highest risk as it involves higher investment costs and lower success rates. There is no clear answer as to which is more stable because when oil prices fall, almost all the segments are hit.”
Local companies that have interests in oilfields include SapuraKencana Petroleum Bhd (SKPB) — by virtue of the group’s acquisition of Newfield International Holdings Inc’s Malaysian oil and gas assets — and Sumatec Resources Bhd, which invested US$95 million in the Rakushechnoye oil and gas field in Kazakhstan with Markmore Energy (Labuan) Sdn Bhd, among others.
An industry executive says, “Big companies like SKPB, which acquired Seadrill Ltd’s assisted rigs and Newfield’s production sharing agreement stakes, may see impairments as these assets were bought when oil prices were higher.”
SKPB (fundamental: 1.30; valuation: 1.80) had bought Seadrill’s Asian tender-rig operations for RM8.63 billion while its Newfield acquisition cost it RM2.85 billion.
“Many companies have impairment issues because they had acquired assets at very high prices using borrowings. Previously, oil and gas companies were trading at PERs (price-earnings ratios) of over 20 times. SKPB is now trading at a PER of only 10 times. If it had bought at a PER of, say, 15 times, it would have been in a good deal because the market PER was 20 times, but now it’s only 10 times … in hindsight, it overpaid,” says the executive.
It is uncertain what Newfield’s PER is. However, in SKPB’s announcement to Bursa Malaysia, it expects to recognise goodwill arising from the acquisition, which will depend on the fair value of the acquired company.
The group says any fair value adjustment to the assets and liabilities arising and the effect of the amortisation of intangible assets identified as well as any impairment of intangible assets may materially affect its financial position.
Impairment losses are expected to erode companies’ earnings, which are likely to be impacted by the weak crude oil prices.
Nonetheless, in the event that crude oil prices recover further, companies will be able to reverse the impairment losses recognised previously.
In the current operating landscape, where many oil majors are cutting back their operational and capital expenditure, concerns also arise about the viability of many of their business ventures.
The industry executive believes that if an acquisition complements a company’s other businesses and adds value to its services, the purchase would make sense. Otherwise, the company may end up owning idle assets.
“For example, when Boustead Holdings Bhd acquired some land in Klang, it expected its subsidiary Boustead Heavy Industries Corp Bhd (BHIC) to use it for its offshore module fabrication works,” he says.
“As there aren’t really many fabrication jobs to look forward to now, its newly acquired PFC Engineering Sdn Bhd (PFCE) may be able to use the land.”
Last year, Boustead (fundamental: 0.65; valuation: 1.80) bought Port Klang Cruise Centre and nine parcels of land for about RM310 million. It also bought an 80% stake in PFCE for RM20 million to expand its oil and gas services.
The industry executive notes that although the land may not be used for fabrication works, BHIC (fundamental: 0.20; valuation 0.60) may use it for its shipbuilding activities.
The analyst says the diversification of companies into the oil and gas sector could be considered a good move only if the targeted company — via a merger and acquisition or reverse takeover (RTO) — has a good track record and the management is retained.
“However, if a company was acquired in the hopes of getting new jobs, then it could have been a bad move as new jobs are hard to come by with the weak global crude oil prices,” he says.
He also notes that some companies have to push through their acquisitions. For example, Kulim (M) Bhd (fundamental: 0.65; valuation: 1.20), which is in need of new businesses as it is without a key revenue generator.
In December 2014, the plantation company agreed to purchase a 60% stake in PT Citra Sarana Energi, an exploration and development company, for US$133.55 million to explore potential opportunities in Indonesia after divesting the group’s plantation business in Papua New Guinea and the Solomon Islands.
As the saying goes, crises present opportunities. For companies that are still mulling over plans to invest in the sector or have proposed a backdoor listing, the analyst says the key would be proper management.
“If a company without oil and gas experience were to acquire an oil and gas-related party, it should retain the management team and key staff to carry out daily operations. Given that global oil prices are still weak, there could be a slowdown in new job orders and activities,” he says.
This article first appeared in The Edge Malaysia Weekly, on February 23 - 29, 2015.
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