The upstream oil and gas services sector could be approaching the bottom of its current cycle in the second half of 2026 before activity begins recovering from 2027, according to Kenanga Research, which maintained its OVERWEIGHT stance on the sector.
The research house said PETRONAS’ first-half results reflected subdued spending on its existing upstream operations, with a large portion of the national oil company’s capital expenditure instead attributable to the acquisition of Saudi Aramco’s stake in the Pengerang refining and petrochemical complex.
PETRONAS recorded core profit of RM23.2 billion for 1HFY26, broadly flat year-on-year after excluding exceptional items comprising a RM5.3 billion net disposal gain and RM5.8 billion in derivative losses.
Upstream remained the strongest-performing division, supported by higher average realised crude oil prices. However, capital expenditure on the segment remained relatively modest during the period.
The gas and maritime division also recorded higher revenue, supported by increased liquefied natural gas and processed gas volumes as well as stronger realised prices.
Kenanga highlighted that Malaysia’s average sales gas volume increased by 342 million standard cubic feet per day, mainly due to higher offtake from the power sector.
The research house said the increase could point to strong underlying industrial and data centre-related demand.
PRefChem Deal Drives Capex Surge
Downstream was the main drag on PETRONAS’ first-half performance despite higher average realised product prices, with the group having signed an agreement to acquire Saudi Aramco’s 50% interests in Pengerang Refining Company Sdn Bhd and Pengerang Petrochemical Company Sdn Bhd, collectively known as PRefChem.
The transaction value was not disclosed.
Kenanga, however, estimated that the deal could be worth around US$7 billion based on Aramco’s previous investment in PRefChem, an estimate it said was broadly consistent with PETRONAS reporting RM26 billion in downstream capital expenditure.
The acquisition was also the principal reason PETRONAS’ overall 1HFY26 capex came in higher than expected at RM41.4 billion.
Of this, Kenanga attributed RM26 billion to the PRefChem stake acquisition, implying that only around RM15.4 billion was spent on PETRONAS’ existing businesses.
Upstream accounted for RM14.1 billion of that expenditure.
Excluding the PRefChem transaction, Kenanga noted that PETRONAS’ underlying capital spending would have been lower year-on-year, helping explain why upstream oil and gas service providers generally underperformed earnings expectations during 1HFY26.
Despite the elevated headline capex, PETRONAS generated RM47.5 billion in operating cash flow during the first half.
Kenanga said operating cash flow could have been even stronger without the negative working-capital impact caused by an increase in receivables. Should working-capital pressures normalise, PETRONAS could generate close to RM50 billion in operating cash flow during 2HFY26, providing funding capacity for both capex and dividends.
Kenanga Sees Room For PETRONAS Dividend To Reach RM30 Billion
Kenanga believes there is potential for PETRONAS to pay more than the RM20 billion dividend currently announced for 2026.
The research house expects the government to face higher petrol and diesel subsidy expenditure following the surge in market fuel prices since March, potentially increasing the need for additional dividend income from PETRONAS.
It estimates PETRONAS’ second-half capex could reach a maximum of RM25 billion, similar to 2HFY25, but believes actual spending is likely to be lower.
Kenanga cited the ongoing legal dispute involving PETRONAS and Petroleum Sarawak Bhd (PETROS), alongside the government’s potential need for higher dividends, as factors that could constrain capital spending.
“We believe that PETRONAS group has room to pay up to RM30 billion in total for dividends to the government without affecting its balance sheet,” Kenanga said.
Upstream Spending Could Turn Around In 2027
While the immediate outlook for upstream service companies remains soft, Kenanga sees early signs of an activity recovery beginning in 2027.
PETRONAS has been restructuring its upstream portfolio by bringing in greater foreign participation, including through Searah, its joint venture with Eni involving joint ownership of multiple assets.
It has also entered into farm-out agreements with EnQuest involving four production sharing contracts in Malaysia, with completion expected in January 2027.
Kenanga expects these changes to be negative for upstream activity in the short term because of operational transitions.
From FY27 onwards, however, the research house believes the restructuring could become a catalyst for higher activity as the assets gain access to additional funding from their respective owners.
This could allow development spending to accelerate without being as constrained by issues affecting the wider PETRONAS group, including its ongoing legal dispute with PETROS.
Kenanga believes the upstream services subsector has become increasingly attractive following a subdued 2QFY26 earnings season and could establish a cyclical bottom during 2HFY26 before positioning for an upcycle from 2027.
Dialog Replaces Petronas Dagangan As Top Pick
Against this backdrop, Kenanga switched its sector top pick to Dialog Group Bhd from Petronas Dagangan Bhd.
The research house maintained an OUTPERFORM call on Dialog with a target price of RM2.63, citing potential upside from upcoming production sharing contracts and small-field assets within its upstream portfolio.
Kenanga also believes Dialog has moved beyond the engineering, procurement, construction and commissioning cost pressures that previously weighed on its performance, improving its longer-term growth outlook.
For exposure to upstream services, Kenanga selected Keyfield International Bhd, maintaining an OUTPERFORM recommendation and RM1.88 target price.
The research house said Keyfield’s valuation has fallen to attractive levels, with an estimated FY26 yield of about 5% even after earnings forecasts were reduced.
Kenanga also sees Keyfield as having significant operating leverage to a potential recovery in upstream spending from 2027, supported by one of Malaysia’s younger offshore support vessel fleets. Its vessels have an average age of around nine to 10 years, compared with an industry average of 15 years or more.
The company’s track record in cyclical vessel transactions was another positive, Kenanga said, pointing to several successful offshore support vessel transactions during 2025 and its recent acquisition of a dredger at what the research house described as distressed pricing.
With valuations having become more attractive following weak second-quarter performances, Kenanga expects the upstream services segment to find a bottom in the second half of 2026 before the anticipated recovery in activity next year.
It therefore maintained its OVERWEIGHT sector recommendation, with Dialog and Keyfield its preferred exposures to the next phase of the oil and gas cycle.
