船头船尾: SapuraKencana Petroleum - Showing The World Its Capabilities

We met with management recently and emerged positive on SapuraKencana’s business developments. Our FY15/16 earnings forecasts now reflect estimated Newfield upstream asset contributions. Maintain BUY, albeit with a lower SOP-based FV of MYR5.33 (from MYR5.61). We still like the company for its potential, yet-to-be-unlocked value, good partnership with Seadrill and excellent job execution.

Positive on operations. We met with management recently and came out positive over ongoing developments. All six of SapuraKencana Petroleum (SapuraKencana)’s pipe-laying support vessels (PLSVs) will be ready ahead of schedule with the first, Sapura Diamante, scheduled to begin operating by at least 4QFY15. The second, Sapura Topazio, is slated for deployment by 1QFY16. We also earlier estimated the total contingent gas resources (2C) for the SK310 and SK408 gas fields to be in the 2.5-3.0trn cu ft (tcf) range. However, following the recent successful 4-well drilling campaign at SK408 and management’s update, we believe total resources may now amount to 3.5-4.5tcf. Meanwhile, the existing four oil producing wells are estimated to have another 6-8 years of life. This may be extended further with infield drilling.

Forgoing s h a riah status? Management has expressed that it is willing to give up its shariah status if the cost of maintaining it outweighs the economic benefits. The group remained on the shariah-compliant list during the May revision by the Securities Commission, but may risk exclusion come November, due to non-MYR denominated loans.

Maintain BUY, with a SOP-based FV of MYR5.33 (from MYR5.61). We lower our FY15 earnings estimate by 6% as we conservatively included only a quarter’s contribution from the Brazilian pipe-laying contracts. We also raise our FY16 earnings forecast by 8% as we expect the second PLSV to start contributing by 2QFY16. We expect activities from the 5-year transport and installation (T&I) contracts to be in full swing. Our FY15/16 earnings estimates now reflect the potential contribution from Newfield Exploration (NFX US, NR)’s Malaysian assets. We also reiterate our BUY call but lower our SOP-based FV to MYR5.33 (from MYR5.61), implying a target FY16F P/E of 18.4x vs other big-cap stocks under our coverage that trade at 14x-29x. We still like SapuraKencana as: i) we believe there is still much long-term value to be unlocked, ii) it has the capability to properly manage another risk service contract (RSC), and iii) its relationship with Seadrill (SDRL NO, NR) continues to expand its geographical footprint.

Meeting Highlights

We met with SapuraKencana’s management recently and came out positive over its ongoing developments:

Contingent gas resources may increase. We earlier estimated that the total contingent gas resources (2C) for both the SK310 and SK408 gas fields to be in the range of 2.5-3.0tcf. However, following the recent successful 4-well drilling campaign in SK408 and the update from management, we believe the total resources may amount to 3.5-4.5tcf. We understand that SapuraKencana has a 10-well drilling campaign for SK408, as signed in the production sharing contract (PSC) with Petronas.

Gas sales agreement (GSA) soon to be signed. Management is hopeful about inking the GSA for SK408 by the end of this year, which would turn the resources from 2C to proven and probable (2P). The development cost, expected to be incurred by SapuraKencana in developing the said field, was earlier estimated to be at USD88m (c.MYR282m) based on its working interest (WI) of 40%. On the other hand, the development of SK310, based on a WI of 30%, would entail an estimated cost of USD510m (c.MYR1.63bn).

Cost of development is a concern. Management also addressed the worries surrounding the cost of developing the gas fields. The development cost will be partly funded by its MYR16.5bn restructured loan. We also believe that the capital recovered from the development of the Berantai marginal field under the RSC may be recycled into developing these two gas fields. The total development cost for Berantai was estimated to be c.USD800m (c.MYR2.56bn), of which SapuraKencana was required to fork out half of the amount for its 50% share.

Producing wells have 6-8 years of reserve life. The existing four oil producing wells are estimated to have another 6-8 years of life with an expected average 10% rate of decline per year. The existing producing fields are currently capable of producing a total of 25,000 barrels of oil per day (bpd).

Bidding on its own for new RSCs. On RSCs, management shared that it is now able to bid on its own without a foreign partner. This is mainly attributable to the additional skill from the acquisition of the Newfield upstream assets. We believe the chance of garnering a second RSC is high following the success of Berantai.

New fabrication infrastructure contract awards expected. Management is hopeful to win approximately MYR10bn worth of new contracts this year following a total of MYR8bn won last year. We believe this is mainly driven by the platform/enhanced oil recovery (EOR)-related fabrication infrastructure contracts that are expected to be awarded by Petronas by the end of the year. Management noted that such contract award flow has been slow at the current juncture, which is in line with our expectation, as highlighted in our previous
sector reports. It fabrication yard is currently 40-50% utilised, implying there is ample capacity to handle more fabrication jobs.

Limited forex currency exposure. Management shared that there is little exposure to the volatility of the BRL as most of the revenue derived from the Brazilian contracts are USD-denominated. Certain costs like labour expenses are in BRL, but management assured that it has built in cost escalation assumptions into the project to offset these minimal negative impacts, if any.

PLSV will be ahead of schedule. We expect that all six of the pipe-laying support vessels (PLSV) will be ready ahead of schedule. However, management cautioned that the actual deployment of the vessels may not coincide with the date of their respective availability to Petrobras. The first PLSV, Sapura Diamante, is scheduled to start operation by at least 4QFY15. The second vessel, Sapura Topazio, is expected to be deployed for operation by 1QFY16.

Shariah compliance may not be top priority. In regards to its shariah status, management has expressed that it will forgo its status if the cost of maintaining it outweighs the economic benefits. The group remained in the shariah-compliant list during the May revision by the Securities Commission but may risk exclusion come November.

Earnings revisions

We believe that SapuraKencana’s earnings growth will be underpinned by: i) the inclusion of contributions from Newfield’s upstream assets going forward, ii) its strong tender rig business where FY15 will be the first full-year earnings recognition following the completion of the acquisition, and iii) improvement from its offshore
construction and subsea services (OCSS) division following a poor FY14 performance.

Our FY15/16 forecasts now incorporate estimated: i) normalised 12-month earnings from the Newfield upstream assets, and ii) full-year earnings contribution from the tender rig business. Our revised FY15 earnings estimate is now 6% lower than our previous forecast, as we conservatively included only one quarter’s contribution from
the Brazilian pipe-laying contracts.

Our FY16 earnings have been increased by 8% as we expect the second PLSV to start contributing by 2QFY16. We are also expecting activities from the 5-year T&I contracts – worth approximately MYR4bn-5bn in total – awarded by Petronas to SapuraKencana to be in full swing.

Valuation

We reiterate our BUY recommendation but lower our SOP-based FV to MYR5.33 (from MYR5.61) following the revisions above. We value:

i) the OCSS and fabrication & hook-up construction & commissioning (Fab & HuCC) divisions at a target FY16 P/E of 20x (from 18x and 20x respectively), ie at 25% premium over smaller oil & gas (O&G) servicing
players like Dayang Enterprise (DEHB MK, BUY, FV: MYR4.80) and Petra Energy (PENB MK, NEUTRAL, FV: MYR2.71). We opine that such a premium is warranted, as SapuraKencana is better equipped than its comparable peers of similar businesses. Most of the assets employed for the use of the related contracts are owned by the group,

ii) the tender rig business, a sub-division of the energy and drilling (E&D) business is now valued at 27x (from 35x), similar to its comparable peer, UMW Oil & Gas (UMWOG MK, NR), which is currently trading at 27x CY15,

iii) the existing oil producing fields of Newfield’s upstream assets at MYR0.12/share. We have imputed an estimated oil price of USD105.00/barrel vs current WTI price of USD106.71/barrel,

iv) the 15-year Berantai RSC at MYR0.09/share using a WACC of 9%, and

v) we included only a partial of the expected FY16 year-end total borrowings into our FV, ie MYR4.7bn out of MYR10.5bn. We believe about 55% of these loans are for the construction of the PLSVs and the development of the Newfield gas fields. These assets are not expected to bear any contributions to the bottomline in FY15/16, Hence, we believe it fair to exclude these loans.

We still like SapuraKencana, as we believe there is still substantial value to be unlocked, especially from the gas fields that are yet to be developed. We also believe that it is capable of clinching another RSC, due to its proven track record. Also, SapuraKencana’s relationship with Seadrill, a committed long-term investor in the former, may open inroads to places still foreign to the group (like Mexico).