This article first appeared in The Edge Malaysia Weekly, on March 14 - 18, 2016.

Bumi Armada Bhd, the fifth largest floating production storage and offloading (FPSO) vessel operator in the world with an order book of RM27.5 billion and optional extensions worth RM15.3 billion, closed at 80 sen last Friday, cementing its status as one of the newest penny stocks on Bursa Malaysia.

Much of the selldown was the result of Bumi Armada announcing that its RM1.46 billion contract with Woodside Petroleum Ltd for the charter of its FPSO vessel, Armada Claire, had been terminated.

However, a source says Armada Claire was still working Woodside’s Balnaves oilfield off northwest Australia, until last week at least.

While Bumi Armada has played down the termination, analysts have not taken it lightly. This is because Armada Claire was custom-built for the Balnaves oilfield, which means it cannot just sail away and seek deployment in another oilfield. That would require considerable conversion work.

AmResearch has downgraded Bumi Armada to a “sell” from a “hold” with a lower fair value of 86 sen a share (90 sen before) based on a 45% discount to its revised sum-of-parts valuation of RM1.56 per share.

“We have cut FY2016F to FY2018F earnings by 11% to 15% due to the discontinuation of the Armada Claire FPSO charter,” the research house says.

Bumi Armada’s financial figures are not encouraging. In its financial year ended Dec 31, 2015, it suffered a net loss of RM234.57 million on revenue of RM2.18 billion. In contrast, in FY2014, the company had made RM218.69 million in net profit from RM2.4 billion in sales.

In FY2015, Bumi Armada had deposits, cash and bank balances of RM1.52 billion, down from RM3.3 billion in FY2014. Its long-term debt commitments stood at RM6.26 billion — up about 21% from RM5.17 billion as at end-FY2014 — while short-term borrowings amounted to RM1.77 billion (RM1.02 billion previously). Gearing at end-FY2015 was 0.89 times compared with 0.43 times in FY2014.

Kenanga Investment Bank Research forecasts Bumi Armada to make a net profit of RM278.6 million on revenue of RM1.73 billion in FY2016, and net profit to strengthen to RM552.1 million on sales of RM1.83 billion in FY2017.

Nevertheless, there could be a lot of uncertainty about the company.

Bumi Armada’s stand, meanwhile, is that the purported notice of termination is invalid as it is tantamount to a cancellation for convenience or a repudiation of the contract by Woodside, pursuant to which Bumi Armada is entitled to compensation.

But was the termination unexpected?

UOB Kay Hian, in a report last week, highlights that by the fourth quarter of 2015, production at the Balnaves field had declined 50% to only 7,094 barrels of oil equivalent per day in just six months because exploiting the field was uneconomical.

“Using our assumption of the FPSO’s average charter rate (excluding O&M) of US$310,000 per day, the production cost associated with FPSO leasing is likely to be at US$44 per barrel, higher than current oil prices. We continue to believe that Woodside’s decision to terminate the contract was due purely to uneconomical project returns,” the research house says.

Last Friday, West Texas Intermediate was trading at US$38.66 per barrel, in contrast to about US$55 in April last year when Woodside took over Apache Corp’s assets in Australia or its record high of US$110.53 in September 2013 and US$145.29 in early July 2008.

UOB Kay Hian says Woodside had announced in January this year that a provision will be recognised in 2015 as remaining payment obligations under the Balnaves FPSO lease. The research house anticipates the amount to be between US$120 million and US$140 million pre-tax.

Woodside’s FY2015 annual report indicates that a US$128 million provision was recognised during the year (in other provisions) for the remaining payment obligations under the Balnaves FPSO lease, which ends in 2018. The provision arises from the expectation that the asset will perform poorly and oil prices will drop.

To recap, back in April 2013, Bumi Armada secured a syndicated term loan facility of US$198 million from Japan’s Sumitomo Mitsui Banking Corp, United Overseas Bank Ltd and French banking group Natixis, among others.

Kenanga opines that the remaining loan attached to Armada Claire could be in excess of US$100 million, and payable in the next three years, which in turn could be a problem for the company.

“The loss of cash flow raises concerns about its debt obligation repayment as (Bumi) Armada has a relatively high net gearing of 0.9 times,” Kenanga says in a report.

MIDF adds that “should Bumi Armada manage to claim some compensation from Woodside or from its guarantor, the negative financial impact in FY16 might be limited. However, this could prove to be a long-drawn process”.

The research house has a “trading sell” call on Bumi Armada while Kenanga has an “underperform”. UOB Kay Hian has a “hold” call and a target price of 81 sen but cautions: “We foresee near-term selling pressure as we think more allowance for doubtful debts may arise in the future due to the Armada Claire termination.”

Topping the list is Bumi Armada’s US$1.4 billion (RM4.6 billion when signed in December 2013) FPSO Kraken contract, which has options for 17 annual extensions.

EnQuest PLC is a 60% owner and operator of the Kraken oilfield in the North Sea. The other owners are UK-listed Cairn Energy PLC with a 25% stake and First Oil PLC with 15% equity interest.

On March 1, Moody’s Investors Service downgraded the corporate family rating of EnQuest to Caa1 from B3 and probability of default rating to Caa1-PD from B3-PD. The Caa2 rating on the company’s 2022 senior global notes was confirmed. The outlook for all ratings is negative.

Bumi Armada also has a foothold in Africa, where it won a contract from Italy’s Eni Angola S.p.A in 2014 for a RM9.5 billion FPSO contract at Block 15/06, East Hub, off Angola.

But according to studies conducted in 2009, Africa has one of the highest average finding costs of oil in the world — at US$35.01 a barrel — which could deter exploration activity.

It is also known in the market that Bumi Armada’s controlling shareholder, T Ananda Krishnan, who owns 34.92% of the company, has been looking to hive off his controlling stake but has yet to get his desired price.

At its close of 80 sen last Friday, the company had a market capitalisation of RM4.69 billion, which was down more than 66% from two years ago.

“It [the termination of the Woodside contract] has opened a Pandora’s box and raises the question of whether they [Bumi Armada] are having problems with other jobs,” an industry observer concludes.

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