KS Energy: Drilling and capital equipment business provide support

Results in line with expectations, except distribution business. KS Energy Services Ltd (KS Energy) reported a 35.9% YoY fall in revenue to S$128m and a 39.5% drop in net profit to S$13.7m in 2Q09. Revenue from the drilling services and other business rose 30.6% QoQ partly because two land rigs (Discoverer 2 and 4) commenced operations and the KS Titan-2 delivered its maiden revenue. This accounted for 50% of our fullyear estimate but contributions from the distribution business accounted only about 45% of our estimates with slower demand in the oil and gas industry. Lower steel prices also affected selling prices. The group also reported an additional S$4m insurance claim for KS Titan-1's loss after proceeds of S$9m in 1Q09. 1H09 net profit accounted for 50% of our fullyear estimate.

Warrants issue oversubscribed. The group announced a 1 for 4 warrants issue in June this year which generated S$16.8m cash to increase financial flexibility and support working capital needs. It was 124.36% subscribed, and management is encouraged by the results of the issue. Though the warrants are currently out-of-the-money, they may be exercised six months after issuance, and have one and a half year's expiry.

Updates on KS Endeavour. KS Endeavour, a Super M2 design offshore rig, will be delivered in end 09. This is the only asset on KS Energy's fleet that is not contracted out yet. Charter rates have definitely fallen with the dramatic fall in oil prices, but have stabilized in recent months with oil prices trending up from its low of about US$30 to about US$69 now. When asked about prevailing rates in the market, management gave a range of about US$110,000-US$120,000/day.

Maintain HOLD. As mentioned in our earlier report, KS Energy's fixed charter rates and existing contracts will serve it well during this downturn, but its distribution business may continue to feel the impact of reduced capital expenditure by oil companies. We have revised our revenue assumptions for the distribution business, which is now about 17% lower. We are encouraged to see that recurring profit can be provided by the drilling and capital equipment business but till we see a recovery in the demand of the group's products in the distribution business or the emergence of additional growth drivers, we maintain our HOLD rating and S$1.36 fair value estimate on the stock.

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