KMCOB CAPITAL BERHAD - 2016

MARC has affirmed its AAA_(fg) rating on KMCOB Capital Berhad’s (KMCOB) guaranteed serial bonds of up to RM320.0 million with a stable outlook. The rating and outlook reflect the unconditional and irrevocable financial guarantee provided by Danajamin Nasional Berhad (Danajamin), which carries MARC’s insurer financial strength rating of AAA and counterparty credit ratings of AAA/MARC-1. As at end-December 2016, KMCOB has an outstanding amount of RM105.0 million under the guaranteed serial bonds.

KMCOB is a wholly-owned funding vehicle of Scomi Oilfield Limited (SOL), and is reliant on the financial strength of its parent to meet its financial obligations. SOL, which is a wholly-owned subsidiary of Scomi Energy Services Bhd (SESB) and an indirect 65.7%-owned subsidiary of Scomi Group Bhd, mainly provides drilling fluids (DF) and drilling waste management (DWM) services for the upstream segment of the oil and gas industry. SOL’s business mix continues to be dominated by the DF segment, which contributes about 60% of its consolidated revenue.

SOL’s credit profile has continued to come under pressure on the back of lower drilling activities as reflected by the decline of operational rigs in recent years, standing at 1,561 as at end-9M2016 (9M2015: 2,439). MARC also notes that the rig count has generally decreased across all regions including the Middle East. SOL’s active rig count globally stood lower at 22 at end-September 2016 (end-March 2016: 35). Against this backdrop, SOL registered a revenue decline of 33.2% y-o-y to US$229.6 million and pre-tax profit decrease of 54.3% y-o-y to US$15.0 million for financial year ended March 31, 2016 (FY2016).

MARC expects SOL’s business operations to remain soft over the near term. While SOL’s order book remains fairly large at US$1.11 billion at end-FY2016, the rating agency is of the view that contract execution could be delayed given the still challenging environment for exploration activities, although the recent recovery in oil prices could provide some nascent recovery to drilling activities. Of its order book, domestic contracts accounted for 70.8%, or US$784.6 million.

In response to the tough conditions, SOL has continued with its cost rationalisation initiative, resulting in a 17.6% decline in operating cost during FY2016. Accordingly, this moderated the impact on SOL’s operating profit margin, which declined to 9.4% from 11.8% in the previous corresponding period. Cash flow from operations (CFO), however, fell slightly by 4.2% y-o-y to US$33.7 million, while free cash flow (FCF) increased to US$31.1 million (FY2015: US$21.6 million) on the back of lower net capital expenditure of US$3.8 million in FY2016 (FY2015: US$15.2 million). Over the near term, the cash flow position could come under further pressure as declining revenue translates into lower cash conversion.

SOL’s total borrowings reduced sharply to US$77.0 million as at FY2016 (FY2015: US$117.6 million) due to repayments and unrealised gain from exchange rate translation as the US dollar strengthened against the Malaysian ringgit. As a result, debt-to-equity stood lower at 0.77x (FY2015: 1.17x). Based on SOL’s current borrowing position, SOL has a repayment of US$37.9 million (excluding revolving credits) over the next 12 months, of which RM55.0 million is due in December 2017. SOL’s cash and bank balances which stood at US$21.2 million as at end-FY2016, and trade and other receivables provide sufficient liquidity to meet its upcoming debt repayment.

As the rating and outlook hinge on the irrevocable and unconditional guarantee provided by Danajamin, any changes on KMCOB’s rating will be primarily driven by a revision of Danajamin’s credit strength.

Major Rating Factors

Strengths

• Established market position in drilling fluids (DF) and drilling waste management (DWM); and
• Geographical diversity in DF and DWM business segments.

Challenges/ Risks

• Dependence on oil and gas exploration activities; and
• Potential contract execution delays in current challenging oil price environment.