Offshore & Marine - UOB Kay Hian Research 2015-11-27: Global Oil-Service Bellwethers ~ The Price of Stability

Offshore & Marine - UOB Kay Hian Research 2015-11-27: Global Oil-Service Bellwethers ~ The Price of Stability Offshore & Marine SEMBCORP INDUSTRIES LTD U96.SI  EZION HOLDINGS LIMITED 5ME.SI  TRIYARDS HOLDINGS LIMITED RC5.SI 

Offshore & Marine – Singapore Global Oil-Service Bellwethers: The Price of Stability 

  • We study management comments in the recent 3Q15 results of global oil-service bellwethers. 
  • Recovery is now expected in 2017 at the earliest. Central to the industry recovery is oil price stability. 
  • The industry is indeed making big leaps in cost reduction. We advise accumulation of selected stocks on weakness in anticipation of a stock price recovery from 2H16 onwards. 
  • Our Singapore top stock picks are SCI, Ezion Holdings and Triyards. 
  • Maintain MARKET WEIGHT. 


WHAT’S NEW 

  • We have studied management comments in the 3Q15 results of global oil-service bellwethers. We sought clues to the turning point of the current oil industry’s downturn, as well as its ongoing structural changes. We draw the following key points: 

 Expect a recovery in 2017 at the earliest. 

  • A growing chorus of oil-service providers now expects a recovery to begin in 2017 at the earliest. These service providers include Transocean, Haliburton, Technip, and National Oilwell Varco (NOV). 
  • This stems from the view that 2016 capex will be reduced as severely as 2015’s, with international oil companies (IOC) and national oil companies (NOC) delaying spending. 

 The return of activities hinges on oil price stability and structurally lower development costs. 

  • This remark by Technip was similarly repeated by numerous oilservice bellwether companies. Oil price stability and better economics (on lower costs) remain the key factors for oil companies to sanction new projects and a resumption of spending. 
  • In the words of Haliburton: “IOCs need to be convinced they are at a price point where they can generate cashflow in the long run and make a return on the project over a period of years”. Given oil companies’ already increased willingness to lower development costs (which some have already done so) we opine that the real trigger point would really be oil price stability. 

 Breakeven prices for offshore projects have fallen by up to 50%. 

  • A key point brought up by the oil-service bellwethers repeatedly is how the oil industry has aggressively and proactively cut costs. 
  • A paradigm shift is ongoing. A Brent oil price level of US$70/bbl or greater might not be needed for activities to resume. Central to this is cost reduction through equipment standardisation, simplification and project integration. 
  • ENSCO - in its 3Q15 results presentation - highlighted the amount of cost savings from various projects: 
    1. BP Mad Dog Phase 2: Cost estimates reduced from US$22b to < US$10b (-55%) through standardisation, scope optimisation and industry deflation. 
    2. Shell Appomattox: A 20% reduction in project cost from supply chain savings, design improvements, etc. 
    3. Total Block 32: Capex is reduced from US$20b to US$16b (-20%), via optimised project design and contracting strategy. 
  • To get a sense of the new breakeven levels, we apply a 20% discount to deepwater breakevens for select regions, using ranges provided by Infield Systems. This translates to US$40-48/bbl (previously: US$50-60/bbl) for US GoM and US$48-56/bbl (previously: US$60-70/bbl) for West Africa. We caveat that these are rough estimates. Development costs vary significantly from project to project. 

 A wait-and-see sentiment. 

  • Haliburton has remarked that they expect the recovery to take more than 1-2 quarters after a rise in oil prices to higher levels before activity returns. Reasons being: 
    1. IOCs’ need stable oil prices before sanctioning higher capital budgets and, 
    2. NOCs are slow in raising (and reducing) capital budgets. 


ACTION 


 Recovery is now expected in 2017 at the earliest. 

  • Central to a resumption of E&P spending is oil price stability. There are also expectations of a timing gap between expected rising oil prices and the subsequent increase in E&P spending and oil-service activity. 
  • The Singapore oil-service sector currently trades at cyclical trough 1-year forward P/B of 0.5x. We advise accumulation of selected stocks on weakness in anticipation of the beginning of a stock price recovery from 2H16 onwards, six months ahead of an expected industry recovery. 
  • The entire industry is already making big leaps in cost reduction. 

 However, a longer lead time for rig orders. 

  • ENSCO and Transocean are anticipating activities to return only in 2017. With newbuild demand typically lagging a rise in activity by a year, we expect new rig orders to return only in 2018. 
  • Additionally, a higher rig scrapping rate is required to alleviate the oversupply situation. 
  • Negative for rig builders. We are UNDERWEIGHT on Sembcorp Marine (SMM) given its customer mix in the jack-up rig segment and potential risks of contract cancellation. 

 Maintain MARKET WEIGHT. 

  • No change in our stock recommendations. With current share prices at cyclical trough valuations, many stocks are deep in value. However, the global O&G industry continues to be in a deep downturn. 
  • We prefer companies with a baseload of earnings and strong balance sheets. 
  • Our top stock picks remain Ezion (BUY/S$0.60/Tgt: S$1.01) and Triyards (BUY/S$0.45/Tgt: S$0.88) and Sembcorp Industries (BUY/S$3.35/Tgt: S$4.07)


ASSUMPTION CHANGES / CATALYSTS / RISKS 


 Oil price is the key risk. 

  • Two key risks in the sector are: 
    1. protracted low oil prices, and 
    2. another sharp fall in oil prices. 
  • Both would significantly impede future E&P spending, which needs to rise in order to return activity to pre-crash levels.



Nancy Wei UOB Kay Hian | Foo Zhiwei UOB Kay Hian | http://research.uobkayhian.com/ 2015-11-27
UOB Kay Hian Analyst Report BUY Maintain BUY 4.07 Same 4.07
BUY Maintain BUY 1.01 Same 1.01
BUY Maintain BUY 0.88 Same 0.88


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