Mixed results reaffirm need for O&G players to remain prudent

Challenges that plagued offshore service providers during the downturn, namely overcapacity and low charter rates, are still prevalent

by MARK RAO / pic by BLOOMBERG

OIL prices might be on the rise, but the improvement does not seem to translate into better earnings for many companies in the oil and gas (O&G) industry.

As results came pouring towards the end of last month, it is obvious that many of the companies should heed Petroliam Nasional Bhd’s (Petronas) advice — to consolidate or go bust.

Despite the strengthening of oil prices, major players and oil giants are still cautious and holding back their spending, a strategy that could be the main factor that affected the financial results of listed O&G firms.

Clearly, while exploration and production (E&P) players benefitted from the higher oil price environment as their incomes are directly correlated to oil prices, O&G service and equipment companies had continued to struggle with job scarcity amid low levels of capital spending in the industry.

Meanwhile, the challenges that had plagued offshore service providers during the worst of the downturn, namely overcapacity and low charter rates, are still prevalent.

However, amid the shortcomings, several companies did perform admirably among the entire spectrum of the O&G value chain.

Full-fledged E&P player Hibiscus Petroleum Bhd turned in improved earnings and turnover for its second quarter (2Q) ended Dec 31 last year, benefitting from lower amortisation and a higher average realised oil price.

Deleum Bhd also improved its earnings for its 4Q and financial year ended Dec 31, 2017, as a result of the better sales mix achieved by the upstream service provider, while offshore player Bumi Armada Bhd ended the year strongly on higher revenue contributions and the absence of impairments.

Downstream players, including Gas Malaysia Bhd and the three listed Petronas units, also finished the year on a high note.

Underlying these performances is the emphasis placed on operational and cost efficiency, with the 2014 oil crash instilling in the industry financial prudency in place of overzealous investing.

These “austere” measures will be the key in riding out the industry downturn as market uncertainties continue to hold back capital spending and delay final investment decisions (FIDs).

Ebitda as a Measure of Growth

Despite coming out of the worst of the downturn, several O&G players continued to operate in the red last year.

While Sapura Energy Bhd’s engineering and drilling businesses were weighed down by the prolonged low levels of capital spending affecting the industry, companies such as Dayang Enterprise Holdings Bhd were negatively impacted by one-off provisions, tax expenses and higher impairments.

MIDF Amanah Investment Bank Bhd equities research analyst Aaron Tan said the 4Q is often a “kitchen sinking” exercise whereby a respective company recognises impairments, provisions and other liabilities in its financials.

“This often means a company’s results for its 4Q appear worse than they actually are.

“Earnings before interest, taxes, depreciation and amortisation (Ebitda) is a better gauge of how a company is faring financially as this is free from one-off costs and provisions,” Tan told The Malaysian Reserve (TMR).

He said listed O&G firms’ Ebitda performed slightly better than market expectations for 2017, mainly driven by cost-cutting initiatives which were undertaken two to three years prior.

When oil prices began crashing in the middle of 2014, falling from above US$100 (RM400) per barrel on the Brent Index to below the US$50 mark in early-2015, the majority of O&G players had over invested and faced large sum of debts.

The cancellation of large-scale projects and delayed FIDs during the downturn meant that these players had no means to finance their debt, thus necessitating the need to adopt prudent cost-cutting measures to remain financially viable.

This will continue to be the case going forward as the recovery in oil prices since the middle of last year has not been followed by a pick-up in project activities and FIDs.

Lower Impairments and Stable Oil Prices in 2018

JF Apex Securities Bhd senior analyst Lee Cherng Wee said the level of impairments recognised by O&G players is expected to be lower in 2018, with the majority of companies having undertaken provisions over the past one to two years.

He said it is in line with the slight recovery in the industry coupled with oil markets finding a solid foothold at the start of the year.

“Oil prices have stabilised in 2018 on the OPEC and non-OPEC production cuts with Russia coming into the deal as well.

“We foresee oil prices performing between the US$60 to US$65 per barrel this year,” he told TMR.

Since January this year, Brent oil prices ranged between US$62.59 and US$70.53 per barrel in line with crude output from OPEC producers falling to a 10-month low of 32.28 million barrels a day (bpd) last month.

Meanwhile, a healthy inventory surplus of about 1.5 million bpd today should support oil prices at above the US$60 per barrel level.

With lower provisions and a stable oil price floor, O&G companies should turn in improved margins this year, though analysts and market watchers are expecting the growth to be marginal.

Will Investors’ Confidence Return to the Market?

National energy and state-owned O&G group Petronas allocated higher capital expenditure for 2018 at approximately RM55 billion, up from the RM44.5 billion spent last year, but analysts believe the majority of the allocation will go towards the purchasing of new assets as opposed to E&P activities.

The lack of work available in the market is a cause for concern for many investors who foresee the challenging operating conditions to persist in the nearto mid-term, while companies’ lacklustre results have only exacerbated concerns.

Sapura Energy was Malaysia’s largest integrated O&G service provider on asset base when Kencana Petroleum Bhd and SapuraCrest Petroleum Bhd merged back in 2012. Today, it is among the larger players operating in the industry.

However, investors remain wary of the O&G counter despite its sizeable orderbook of around RM15 billion due to continued uncertainties in the market.

Employees Provident Fund has been trimming down its exposure to Sapura Energy of late, holding 412.88 million shares or a 6.89% shareholding in the company as of Feb 27 this year.

Tan Sri Mokhzani Mahathir also disposed of 384.97 million shares in the company on Nov 7 last year, effectively ceasing to be a substantial shareholder in the O&G service provider.

As O&G firms head for a slow recovery with several speed bumps along the way, it is unclear if investors will stay along for the ride.