Consolidation in Malaysia’s oil and gas sector-
The dip in global crude oil prices has had a substantial impact across almost all economies of the world that use petroleum resources. While net importers have benefited, the economics of exporting countries has been disturbed significantly.
Malaysia has been one such economy that has been struggling with large-scale reduction in export earnings owing to the difficult oil price environment. At present too, the scenario poses significant challenges to the oil and gas industry and the outlook remains uncertain.
To this, Malaysia is responding by opting for the consolidation route, which could provide a solution in these tough times and lead to major advantages like economies of scale, geographic diversification, and integration.
Survival of the fittest?
The Malaysian petroleum sector, it is understood, is likely to witness a spurt of merger and acquisition activity. Industry analysts opine that the big conglomerates are expected to take over their smaller counterparts and thus create a “competitive capacity” to resolve the issues at hand, with greater ease.
Since the past few months, oil and gas firms, services companies, law firms, financial service companies as well as government institutions have been projecting a robust support for consolidation. A strong case for this trend to pick up is that the sector is highly fragmented. The industry is marked by a diverse presence of small players, many of which have efficiency issues.
Petronas, the national petroleum company, too has been voicing its support for long. The state company has urged the industry to consolidate to sail through the turbulent times marked by declining oil prices. The company has significantly cut down on awarding new production sharing contracts and risk sharing contracts. Apart from investment in brownfield projects, final investment decisions on upstream greenfield projects are also likely to be deferred. The Asia-Pacific region’s upstream expenditure in 2016 is expected to decrease by 33 per cent compared to 2015 levels (it declined by 21 per cent compared to 2014 levels).
Exit of UMW Holdings Bhd
Recently, UMW Holdings Bhd (UMW) announced its move to exit Malaysia’s oil and gas space. The company transferred the ownership of its subsidiary UMW Oil and Gas Corporation Bhd (UMW-OG) back to investors in the company.
The struggle to stay afloat was clearly reflected in the company’s financials. In the first nine months of financial year 2016, the entity’s revenue slumped significantly by about 62 per cent to RM 267 million (year on year). During the same period, UMW-OG posted a net loss of RM 268 million.
The exit of UMW from its listed assets will be completed via a series of corporate exercises, which includes a dividend in specie and a capital injection estimated at RM 750 million by its major shareholder, Permodalan Nasional Bhd, in a new enlarged oil and gas entity that will have Ekuiti Nasional Bhd (Ekuinas) as a shareholder. Under the exercise, UMW will distribute its 55.7 per cent stake in UMW-OG to shareholders. Following that, UMW-OG will take over Ekuinas’s 42.3 per cent stake in Icon Offshore Bhd, triggering a mandatory general offer.
UMW-OG will offer Icon shareholders the option of cash of 50 sen each share or one UMW-OG share valued at 80 sen. The oil and gas unit will also acquire Orkim Sdn Bhd, a company that owns and operates clean petroleum products, for RM 472.73 million cash from Ekuinas.
It is hoped that by exiting UMW-OG, which has been loss-making and has a high gearing ratio, the parent company UMW will be able to clean its balance sheet after its financial performance was pulled down because of its ventures in the oil and gas sector.
In 2017 alone, UMW foresees divestments in six or seven oil and gas assets. In a bid to achieve its commitment to completely exit the sector, the group company will have to make impairments for its non-listed oil and gas assets. However, at present, the quantum of the potential impairment is yet to be determined and is expected to be disclosed soon.
Norwegian influence
Norway is often cited as an example to draw comparisons. Norway and Malaysia have similar-sized deposits. However, while Petronas (the state-owned oil and gas company of Malaysia) has about 3,700 registered contractors, Norway has just around 700 players in this space. Among the 3,700, most are agents who did not invest in oil and gas assets. They reap fair income through extending agent services.
The figures give a good sense of the scope for consolidation, where actual investments are made in the petroleum assets and profits are churned through such channels.
What’s on the cards
There are both positives and negatives in consolidating Malaysia’s petroleum space. While the positives are efficiency gains arising out of economies of scale, greater capacity, and concentration of competitiveness, there are also some doubts over its effectiveness.
The idea of consolidation in the oil and gas industry has been around since the plunge in global oil prices. Analysts point out that the process, if it indeed happens, will be on a small scale, as its positive effect is limited. It is argued that the cost structure would not change much even if all assets are consolidated. Hence, it is unlikely that consolidation will result in much synergy. Some analysts project that very few acquisitions will take place, and that their impact will not be significant enough to change the shape of the industry. However, if the financials of group companies are not favourable (as in the case of UMW), it may make more sense to exit the business and venture into other areas.
