THE latest results season (for the quarter ended Dec 31, 2014) is expected to give investors some indication of how resilient the earnings of oil and gas companies are. The share prices of some of these companies have rebounded after the heavy selldown last year.
A favourable catalyst for the sector’s fundamentals, as well as on investor sentiment, is the recent rebound in the Brent crude oil price. After bottoming out at US$46.59 per barrel on Jan 13, it shot up to US$58.25 as at Feb 6, or a gain of 25%.
After the nerve-racking plunge of oil and gas stocks, some analysts and fund managers have regained some confidence in the sector. The current share prices, they believe, have factored in all the bad news. The more optimistic among them say another rally could be on the way.
Experts say that while there are still key concerns about an oversupply of crude oil, companies should remain resilient, particularly those with minimal exposure to fluctuations in the price of the commodity.
The crucial question is whether local oil and gas players will be able to maintain their earnings in the face of headwinds.
“We will definitely start to see the impact (of falling oil prices) in the fourth quarter (ended Dec 31, 2014) for some companies. Those in production-related activities will be less impacted currently but the ones that are involved in drilling and exploration will definitely be hit,” says a senior executive of a major oil and gas services provider.
In a recent note, Macquarie Research projects a significant expansion in the valuations of Malaysian oil and gas stocks under its coverage, following a largely disappointing 2014. While there was a downgrade in earnings per share, partly due to the falling oil price, the research outfit says it expects the trend to reverse this year as earnings growth should occur in tandem with a possible crude oil price recovery.
Maybank IB Research has reiterated its “buy” calls for 9 out of 13 oil and gas stocks under its coverage, projecting a sector earnings multiple average of a reasonable 12.9 times. Its 12-month price targets for the stocks imply an upside potential of up to 70% from present prices.
Credit Suisse managing director and co-head of oil and gas research David Hewitt believes that there are concrete reasons to remain bullish on the crude oil price trajectory.
“Bear in mind that there are many upstream operators whose earnings are minimally exposed to the oil price volatility. In the previous two downcycles, the crude oil price doubled from its trough within 12 months, so there is a huge upside in the fundamentals.”
Shares of oil services companies have fallen the most as they were highly exposed to crude oil prices, in addition to Petroliam Nasional Bhd (Petronas) cutting its capex by between 15% and 20% this year. For example, operators such as Perisai Petroleum Teknologi Bhd (jackup rigs), Malaysia Marine and Heavy Engineering Holdings Bhd (offshore construction and marine repairs) and Alam Maritim Resources Bhd (offshore support vessels) have seen their shares decline by more than 60% since June.
Over the past six months, these companies reported much lower earnings, suggesting that the share price decline was partly justified by the worsening fundamentals.
On the other hand, companies with stronger balance sheets and large order books have much better prospects.
In a recent sector note, Credit Suisse says it favours quality stocks with attractive valuations and those that are relatively unimpacted by oil price volatility, highlighting SapuraKencana Petroleum Bhd and Dialog Group Bhd in particular.
It says that for SapuraKencana, only about 10% of its business is directly exposed to the oil price. Its price-to-book of 1.51 times is also at a historic trough, suggesting that its stock price has tremendous upside potential.
An oil and gas analyst says companies such as Dialog and Muhibbah Engineering (M) Bhd present minimal downside risks thanks to their large order books and long-term commitment to Petronas’ RAPID project.
“For the sector, we expect to see some resilience, which translates into an incremental increase in earnings for now. While a pickup in upstream activity would certainly help, we prefer stocks which are more reliant towards long-term contracts and steady revenue expectations,” he says.
Companies who are carrying out risk service contracts (RSC) with Petronas, such as Uzma Bhd and Petra Energy Bhd, look set to maintain their impressive earnings growth. This is because they will continue to recognise profits based on performance. Conversely, Petronas owns all of the oil extracted and is the one exposed to crude oil price volatility.
This is evident from the earnings performance of the two. For the quarter ended Sept 30, 2014, both Dialog and Uzma reported a stronger quarter-on-quarter net profit growth in spite of the bearishness in the sector, which began in June as crude oil dipped below US$100 per barrel.
In a Feb 5 note, UOB Kay Hian Research states that this may already be happening.
“We have turned neutral (from underweight) on the oil and gas sector following the share price recovery, noting that most oil and gas stocks under our coverage have rebounded by 20% to 40% from recent lows,” it says.
This article first appeared in The Edge Malaysia Weekly, on February 9 - 15, 2015.
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