This article first appeared in The Edge Malaysia Weekly on July 13, 2020 - July 19, 2020

IN April 2014, the market capitalisation of Sapura Energy Bhd (then known as SapuraKencana Petroleum Bhd) was close to RM30 billion. That made it the world’s second-largest integrated oil and gas service provider in terms of market value after Italy’s Saipem SpA, and ahead of France’s TechnipFMC.

Times have changed. While Technip currently has a market value of €2.93 billion (RM14.11 billion) and Saipem’s is a respectable €2.22 billion, Sapura’s is a mere RM1.5 billion, at its current share price of just below 10 sen.

While Sapura chalked up a net profit of RM14.2 million from RM1.36 billion in revenue for its latest financial quarter — 1QFY2021 — its earnings received a shot in the arm from foreign exchange gains of RM33.91 million. Without this, it would have been in the red, albeit with a smaller loss compared with previous years (see earnings table).

To put things in perspective, for the corresponding quarter a year ago, Sapura suffered a net loss of RM109.10 million from RM1.63 billion in revenue. After 10 quarters in the red, resulting in accumulated losses of RM4.46 million, the market is understandably sceptical about the company’s performance. Adding to the mix is its balance sheet. As at end-April this year, Sapura had cash and cash equivalents of RM710.97 million, while long-term borrowings were RM7.29 billion and current liabilities amounted to RM3.46 billion. This translates to a net gearing of 1.5 times.

In an exclusive interview with The Edge last week, president and CEO Tan Sri Shahril Shamsuddin says, “Sapura is not a company in trouble. Sapura has got a lot of upside because it’s got people, processes and assets that have already been invested … I don’t know how much value one should put on this, the entire ecosystem. So whether it is core profit or non-core profit, this (company) is real.”

While Shahril is optimistic about Sapura’s prospects, the analyst fraternity is not. Of the 16 analysts who cover the stock, half have “sell”, “underperform”, “reduce”, “fully valued” or “underweight” calls; five have “neutral” or “hold” calls, and only three have “buy” or “outperform” calls. Some of the “buy” calls are also understood to be under review. The 12-month target prices for Sapura go as low as five sen per share.

Then again, an investor in Sapura says the analysts are likely to be a young bunch who are witnessing their first down cycle. “Most of them (the analysts) haven’t even seen an oil rig,” the investor says.

But truth be told, some of those who cover Sapura such as Maybank Investment Bank’s Liaw Thong Jung and AmInvestment Bank’s Alex Goh have covered oil and gas stocks for many years. Liaw has a “sell” call and a target price of six sen on Sapura, while Goh has a fair value of five sen and a “sell” call as well.

Shahril says, “I believe it (Sapura) is misunderstood in many ways. I think as much as we say we have achieved global status in terms of addressing the market, many people still don’t understand the scale and complexity of the operations … and the value it brings to Malaysia. I think that’s the crux of it. And I don’t blame them. Since 2015, because of the [oil] price shock, it has been very tough to service companies and oil and gas companies — not just our company but every other company.

“The short-term nature of investments sometimes aggravates the situation. Because people want profit when the whole industry is not profitable. But we have been successful in terms of opening new markets. We have been very strategic and our execution is very measured,” he adds.

Nevertheless there are reasons for the scepticism about Sapura.

Impairments and order book

Sapura’s order book of RM14 billion should last a little more than two years. Interestingly, its bid book is at RM74 billion, and with a hit rate of between 10% and 20%, the company should be kept busy over the near term.

Year-to-date wins have been limited to about RM800 million, largely attributable to Covid-19 and the Organization of the Petroleum Exporting Countries’ (Opec) decisions on whether to reduce oil production to prop prices up.

While Shahril hints that the worst is behind Sapura, Goh of AmInvestment anticipates the company suffering a net loss of RM290.2 million in FY2021, despite its reporting a net profit of RM14.2 million in 1QFY2021.

“The group could still experience multiple bumpy rides ahead, with potential losses in the upcoming quarters from potential revenue deferrals of RM600 million to RM800 million from the engineering and construction and drilling operations due to work progress slowdowns and clients’ requests,” Goh says in a note late last month.

There have been suggestions that Sapura bids for jobs with very low margins in order to secure contracts. In other words, while its order book may seem huge, it is not guaranteed to bring a profit.

“Sometimes, in a very depressed market like now, when everyone is pressuring you down, there is compression of margin. So now you have the decision of whether to walk away or to do [go ahead with the tender and win the job]. Sometimes, if we walk away, there will be costs because our assets will not be utilised. So yes, sometimes we are forced by the market to take a lower margin so that we at least have utilisation of the assets [we] have,” Shahril explains.

While Sapura managed to cobble together a profit for the quarter with the help of forex gains, its peers have not fared well.

Technip, for instance, posted a net loss of US$3.26 billion (RM13.9 billion) from revenue of US$3.13 billion for the first three months of 2020. It suffered an operating loss of US$2.75 billion for the quarter. The company explains that “these results included after-tax charges and credits totalling US$3.21 billion of expense, or US$7.17 per diluted share. Adjusted net loss was US$49.1 million, or 11 cents per diluted share”.

Saipem, meanwhile, suffered a net loss of €269 million from €2.17 billion in turnover.

Another oil and gas giant McDermott filed for Chapter 11 bankruptcy protection in January this year and came out of it in July after selling Lummus Technology for US$2.7 billion and utilising the proceeds to settle its debts.

Shahril says of Sapura’s financial performance: “We started [to] break even in 1Q. Now we must try to break even in 2Q, then 3Q. It is going to be a challenge with Covid-19. But if we can plus-minus this year, the balance sheet becomes the secondary thing. Our debt-to-equity ratio is about one time. It’s quite normal, no?”

Another issue with Sapura has been huge impairments over the years. For instance, in 4QFY2020, it had impairments of RM3.3 billion and provided for RM440 million on potential project execution delays brought about by the lockdown and Covid-19.

Overall for FY2020, the company suffered a net loss of RM4.56 billion after the RM3.3 billion impairment, on revenue of RM1.63 billion.

But Sapura is not alone. For 1QFY2020, Technip booked non-cash impairment and charges totalling US$3.16 billion for goodwill and other assets in its subsea and surface technologies segments.

Similarly, Saipem took a £228 million (RM1.22 billion) write-down in asset value, which led to impairments dragging down earnings.

On whether Sapura is done with impairments, Shahril says, “Impairment will be on (the) E&P (exploration and production) side, but it is not going to be material. Even if there is, it is because of (oil) price changes towards the end of the year.

“We have impaired maximum — and then we got accused of window dressing. As if the auditors don’t work here. I think that comment is a bit unfair. Because there are accounting standards which we follow, which are governed by external auditors, which are governed by their own — I am saying we can’t simply do things [as we like]. Sometimes, the comments are inaccurate,” he says.

The PNB factor

Sapura’s net asset per share as at end-April was 60 sen, or more than six times its current share price. As at end-April, the company had total assets of RM23.82 billion, but about RM5.06 billion of the assets are a result of goodwill on consolidation. The company’s total liabilities stood at RM14.23 billion.

“So, let’s say we call it a day. We strip everything off. In the end, there is still about RM5 billion left,” Shahril says.

At its close last Friday, Sapura was valued at RM1.52 billion.

To put things in perspective, Sapura has a 50% global market share in both tender barge rigs and semi tender rigs, and about 70% of its order book is from overseas.

SapuraOMV Upstream Sdn Bhd, in which the company has a 50% equity interest, is poised to become the largest independent E&P company in Asia-Pacific. Sapura has a presence in five continents and more than 20 countries.

All these factors were instrumental in Permodalan Nasional Bhd (PNB) taking up a controlling stake in the company.

PNB’s 40% shareholding came about in early 2019 after Sapura raised RM4 billion in a cash call — RM3 billion from a five-for-three renounceable rights issue at 30 sen, and RM1 billion via a two-for-five renounceable rights issue of new Islamic redeemable convertible preference shares at 41 sen each. In total, PNB forked out RM2.68 billion for the stake.

Considering Sapura is trading at below 10 sen a share currently, PNB is sitting on a relatively huge paper loss.

Shahril has a 12.82% stake in the company, and with his management, controls about 13.5% of the oil and gas counter. The 13.5% set Shahril and his team back by about RM550 million.

There has also been talk of a strained relationship between PNB and Shahril. Much of this emerged after former PNB CEO Jalil Rasheed left last month, following discrepancies in connection with his appointment. Jalil, 38, was also chairman of Sapura.

On the perceived tensions with PNB, Shahril says, “There is no difficulty, because every big decision that comes to the board, we will debate. And the board members, together, will decide. I am a minority, how can I push through things that are not sensible?

“Perhaps the board decided to go with me and that upset some people, I don’t know lah. So it [everything] is a board decision. And the board, as you see, has six independent directors and only two from Sapura. I cannot wield that kind of influence on the board, alright?”

Sapura is one of PNB’s 11 strategic investments, the others being Sime Darby Bhd and its units Sime Darby Plantation Bhd and Sime Darby Property Bhd, financial services group Malayan Banking Bhd, property developer S P Setia Bhd, UMW Holdings Bhd and its former subsidiary Velesto Energy Bhd, reinsurance company MNRB Holdings Bhd, Chemical Company of Malaysia Bhd and Duophaarma Biotech Bhd.

“That means they (PNB) are in it for the long haul,” Shahril says in conclusion.

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