Technics Oil and Gas

DMG & Partners Research, May 21

TECHNICS Oil and Gas (TGH) announced that it has been awarded its first leasing contract worth $3.6 million for two gas compressor engine driven packages for a Malaysian client. While we understand that the margins are good, this is a definite shift towards an asset-ownership model that will tie up capital. Given the weak outlook in the core Technics businesses, we are maintaining our "sell" call with a target price of $0.64.

The contracts are for two years plus one-year options, and while the contract size is small, it does provide a stream of income and cashflow that will help cover overheads.

Assuming that each compressor package costs about $2 million, a "fleet" of 25 packages (scaling up to a meaningful size) would require a capital investment of $50 million. This is heavy relative to TGH's current $39 million in fixed assets, and represents a shift from asset-light to an asset-heavy model.

The high capital expenditure will tax TGH's ability to pay dividends. Save for a potential special dividend from selling the Norr Offshore Group (which is likely priced in), the dividend growth outlook remains muted. Downside risk clearly exists with half-year revenues / profits at $19 million/$0.8 million (versus FY2013 forecasts' $52 million/$6 million).

TGH's valuations in the past were held up by: i) capital reduction exercise spanning three years in which it paid out 8 to 12 cents of dividends yearly from FY2010 to FY2012; and ii) consistently healthy order books providing up to nine months' visibility. Valuations now look lofty with dividends likely to be omitted this year, and visibility has diminished as the company has not reported its order book for two consecutive quarters.

Asset-heavy companies tend to be valued near book value, with a premium for delivering returns above the cost of equity. Our P/B peg of 1.78 times already incorporates this premium.

SELL