SapuraKencana Petroleum Bhd
(March 25, RM2.32)
Upgrade to neutral with target price of RM2.34: SapuraKencana’s core earnings of RM1.22 billion for the financial year ended January (FY15) were in line with our expectations (12% below consensus), as profit for the fourth quarter was affected by a lower oil price environment. Key takeaways from the analysts’ briefing on Tuesday were: (i) contrary to market expectations, the impairment of its exploration and production (E&P) assets was only RM55 million — mainly attributed to matured oil assets; (ii) the impairment was offset by a RM215 million fair value gain arising from discoveries at the larger gas reserves (89% of total oil/gas reserves); (iii) management expects the industry downcycle to be prolonged and is adjusting its strategy to be more defensive — SapuraKencana now projects the oil price at about US$55 (RM201.30 per barrel [bbl]) from US$80 per bbl and is not discounting margin compression in the near term; and (iv) E&P breakeven costs are low for its producing assets, at US$60 per bbl at the profit after tax and minority interest level and US$50 per bbl each at the free cash flow and earnings before interest, taxes, depreciation and amortisation (Ebitda) level.

In line with management’s guidance, we cut our forecast FY16F earnings by 22% and for FY17F by 25%. We believe the group will work hard to preserve net margins at our assumption of 10% to 13% (FY15: 12%) by rationalising operating expenditure. However, we conservatively assume further earnings slippage at its rig division, which has about a 50% market share in tender rigs and contracts mainly in Southeast Asia. While we note from Riglogix, a service providing global offshore rig data, that the region’s utilisation fell to 46% (from 60% year-on-year), the global tender rig utilisation rate was relatively stable at 57%.

We have valued the upstream business at a 10% discount to our oil price assumption of US$72 per bbl (2015) and US$80 per bbl (2016), given that its E&P assets are weighted towards gas rather than oil. Our sum-of-parts (SoP) valuation comprises: (i) E&P at 83 sen per share discounted cash flow; (ii) five times FY16F enterprise value/Ebitda for offshore, construction and subsea services and tender rigs; and (iii) eight times FY16F price-earnings ratio for fabrication. In our view, the current share price has factored in most of the negatives. A further rerating would depend on management’s efforts to support and drive earnings. — RHB Research, March 25

This article first appeared in The Edge Financial Daily, on March 26, 2015.