This article first appeared in The Edge Financial Daily, on June 6, 2016.

UMW Oil & Gas Corp Bhd
(June 3, 95 sen)
Maintain hold with an unchanged fair value (FV) of 80 sen: Our rating and FV for UMW Oil & Gas Corp Bhd (UMWOG) are based on the group’s financial year ending Dec 31, 2016 forecast (FY16F) book value, with a 20% discount to its rig costs.

Our FY16F to FY18F losses are maintained, which have already incorporated additional earnings from Naga 6 contract, assuming a daily charter rate of US$75,000 (RM306,000) and a commencement date in the fourth quarter (4QFY16). Recall that UMWOG recently secured a conditional charter contract for its Naga 6 jack-up rig from Petronas Carigali Sdn Bhd for two years, with an extension for another year.

UMW Holdings Bhd, which owns 55.7% of UMWOG, has extended an RM308 million inter-company loan for UMWOG’s working capital requirements. The loan interest rate is set at the six-month Kuala Lumpur Interbank Offered Rate of +1.75% per annum, with a repayment period of five years. 

This is a positive development, which highlight’s UMW’s parental support for UMWOG, which has to resolve its RM2.1 billion debt due for repayment soon. However, this is only a temporary band-aid, as the inter-company loan represents only 15% of the refinancing requirements. 

UMWOG’s 1QFY16 negative earnings before interest, taxes, depreciation and amortisation of RM5 million indicated that the coming months may be worse, given that the majority of its assets are currently not being utilised or secured by a long-term charter. 

As such, we expect negotiations with financial institutions for UMWOG’s existing debt to include some form of corporate guarantee from its parent, which requires shareholder approval. We also do not discount the possibility of a dilutive debt restructuring exercise, which may involve an equity-raising scheme. 

Currently, only two of the group’s eight rigs are in operation: the semi-submersible Naga 1 and jack-up rig Naga 7. However, Naga 7’s charter will expire next month, which means that only one rig will be in operation from July to October, when the Naga 8 jack-up rig will recommence operation together with Naga 6, which has just secured the Petronas Carigali contract. 

The outlook for UMWOG, which derives most of its revenue from drilling rigs, remains challenging in the near to medium term, as a slowdown in the sector maintains downward pressure on day rates, which are exacerbated by an influx of uncontracted newbuilds. 

Hence, the stock currently trades at a 32% discount to its latest book value of RM1.39 per share, which could be eroded by further losses. — AmInvestment Research, June 3