Thursday, 26 March 2015

Nigerian elections 28th March

by Will Forbes

Nigeria turns out to vote in the 2015 Presidential election on Saturday 28 March. Incumbent President Goodluck Jonathan is campaigning against Muhammadu Buhari, a former Major General who ruled Nigeria from December 1983 to August 1985. It is a repeat of the 2011 election, in which Goodluck Jonathan won 59% of the vote. Current polling is difficult to come by, but media reports suggest a close race.

The choice left to Nigerians was characterised by the economist as between President Jonathan,  "who has proved an utter failure, and the opposition leader, Muhammadu Buhari, a former military dictator with blood on his hands". The title of its article is perhaps telling...  "The least awful".

The election day had been delayed (from February) due to security concerns, and the government has banned vehicle use on polling day to ensure security. Many fear that violence could follow as it did in 2011, especially as Mr Buhari has refused to condemn any violence - something the New York Times highlights as could be seen as an invitation to cause unrest.

Historically, the 2011 election had little impact on production, and there are few indications so far that any major disruptions are evident  in this cycle so far.
Source: OPEC. Note march 2011 dip mainly due to maintenance at the Bonga deepwater field

Major challenges await the winner

The Nairu has collapsed along with the oil price and has sent the economy into difficulties. Around 70% of GDP was related to oil in 2014 and without a clear path to stronger oil prices, Africa's largest economy will have to re-adjust to a new normal. Large swathes of the population live in poverty and the government will have to address this, as well as the ongoing Boko Haram violence and corruption.
Source: Bloomberg

The winner should seek to pass the PIB (Petroleum Industry Bill) which has been long delayed and has contributed to reticent inward investment. Nigeria is well known as an oil-rich province and clearer, fairer regulations should encourage exploration and development. 
This will, almost by necessity, require investment in underlying infrastructure that should benefit communities more widely. A fairer distribution of the proceeds of oil production is also necessary if the country is to reduce the extensive oil theft that is leaving the country billions of dollars worse off.

Nigerian-focused companies

Unsurprisingly, Nigerian E&Ps have had a difficult time as the oil price has collapsed. Afren's difficulties may have contributed to investor skepticism about Nigeria's corruption issues making decisions to invest in Nigeria even more difficult. 
Source Bloomberg, Seplat is indexed from IPO date
All of these companies have production but have declined by as much as 55% since the start of January 2014. 

As an indicator of leverage to oil prices in Nigeria, Seplat indicated on its FY2014 results call that the oil price it requires to make returns is $42-49/bbl (this is why it reduced its number of 2015 wells from 23 in previous guidance to 10 in the current environment).

And finally...

Is oil now so cheap that its not worth stealing?
Wall Street Journal (paywall)

Tuesday, 24 March 2015

Hit guidance and stocks fly - the crazy world of junior E&Ps

By Ian McLelland

Last week, EnQuest delivered some solid numbers in its 2014 results presentation. They were nothing spectacular but the company reported production, revenues and EBITDA inline or marginally above previous guidance from January. 

More importantly, the long term growth drivers of the company (namely its Alma/ Galia and Kraken projects) were reported to still be on track for first oil in mid-2015 and 2017 respectively.

So you might have expected the stock to be up 2-3% maximum - and you would be wrong. In strong trading, the stock gained an impressive 15% in the first couple of hours and held firm over the next two days. We think this is noteworthy, not because EnQuest strongly beat expectations (it didn't) but because it reflects just how pessimistic investors and analysts are of E&P performance at the moment.

EnQuest has clearly suffered more than most in the market as its shares have tumbled from 200p to 35p over the last year. Its more senior creditors are also not immune, with 5.5% retail bonds still languishing at 70p in the pound, having been trading as low as 50p in January. The company is a relatively high cost producer and has sizeable capex commitments ahead, especially for Kraken, that will stress the balance sheet.

However, we were very encouraged by the news in late January that the company had agreed a relaxation of senior debt covenants (ND/EBITDA increased to 5x through to Kraken first oil). This was important news and the stock was rewarded with a 15% hike. Of note we learned that this came at the cost of a 20bps hit on the senior debt - a small price to pay for what represents valuable security for the company.

You might also have thought the Wednesday pre-election budget news would be a positive. However with EnQuest not expected to be paying any material cash tax in the UK until 2025, this is probably also off the mark.

So all told the 2014 results really held nothing particularly new or unexpected - unlike the earlier bond reset - and yet saw a similar increase in share price to this important breakthrough. Courtesy of some sensible material hedging (and a $100m 2015 gain) the long term drivers and financial stability of EnQuest look better than they have for a while. It's just that these were largely in place on Wednesday evening before the results, making the market reaction to Thursday's news still something of a surprise.

Thursday, 19 March 2015

Ophir results - Acting counter-cyclically... or not?

By Kim Fustier

We attended Ophir's FY14 results presentation at 10.30am today. Surprisingly - even if Ophir was clashing with EnQuest's results at 9am - the room was only half full… (I remember a time not too long ago when people had to stand at the back of the room!)

Bottom line: 2015 looks to be a year of consolidation post Salamander acquisition, with little drilling action until 2016-17. 

What is Ophir doing in the downturn?

CEO Nick Cooper talked much about Ophir being “brave” and “counter-cyclical” in this environment. Everyone knows seismic costs are down 2/3 and drilling costs are down 30% from their 2014 peak. However, Ophir's 2015 E&A activity will be mostly about 3D seismic acquisition and analysis in four countries (Gabon, Myanmar, Indonesia, Seychelles), with very little exploration drilling happening until 2016-17. 
Unfortunately, without significant drilling in 2015, Ophir's "counter-cyclical" strategy is limited to seismic, which typically represents only around a fifth of total E&A spend and drilling the remaining 80%… we think rig rates are likely to remain depressed into 2016-17, when Ophir is ready to award rig contracts and go back to exploratory drilling. 

Wednesday, 18 March 2015

UK Election Budget: Impact on the UK oil & gas industry

By Ian McLelland

So we had an interesting budget at last for the North Sea as Osborne finally puts back taxes to where they were pre-2011 when he massively shook up the market with increases to the supplementary charge. Reducing the supplementary charge and PRT to 20% and 35% respectively may just arrest the dramatic underlying flight we have seen from the industry in recent years.

The OBR assessment that production will be boosted by 15% by the end of the decade is nothing transformational – Oil & Gas UK had already predicted this as its “central” forecast in its most recent 2015 industry outlook.

Oil & Gas UK activity survey 2015: Production Forecast for the UK Continental Shelf

Sustaining the growth however is going to require a mixture of strengthening oil prices and confidence that taxes are not going to rise once again.

The big unknown at this stage is what form the “single, simple and generous tax allowance” will take next month and how this could affect many of the companies with projects still awaiting final investment decisions. Hopefully the government has thought through all the unintended consequences before it confirms the new allowances – its track record of this over the last five years is hardly auspicious.

Friday, 13 March 2015

Reserves - better not blink or they could be gone

By Ian McLelland

In a week of carnage among the UK listed E&P mid-caps, one of the more puzzling big fallers is Soco International. At the time of writing the stock is down nearly 40% from the start of the week as investors get to grips with a spectacular drop in 2P reserves, from 130mmboe to 41mmboe. However, this reeks of a potential over-reaction and a lack of understanding among much of the analyst community as to what reserves actually mean. We therefore think it is worth considering in this post what companies and independents auditors actually mean by the simple words “reserves”.

Omne trium perfectum

by Will Forbes

Everything comes in threes
This week was not a good one. It has seen three major announcements by well-known London-listed oilers, resulting in week-to-date share prices falls of 20% for Cairn, 38% for Soco and 12% for Afren.

For Cairn, a tax bill of more than your market cap is not the best news in the world, especially when it comes unexpectedly during the day of your full year results. See a blog post earlier this week from Kim Fustier (link)

Soco's downgrade of 2P reserves from 130.1 to 40.8mmboe. This triggers a useful recap of exactly what constitutes resources and resources - see a lengthy blog post from Ian McLelland.

Are Afren's woes now over?

In all likelihood, the refinancing announced this morning will  result in existing shareholders holding just 11% of the fully diluted shares of Afren. This may provide a near-term solution to financing requirements and stave of a complete write-off of investors' cash but a number of questions still remain that an incoming CEO and management will need to address.

  • How does Afren move forward with its relationship with Oriental and AMNI (partners in Ebok and Okoro respectively)? These fields accounted for 95% of Afren's 2014 production;
  • What should Afren do with Barda Rash, where 2P +2C reserves were downgraded from 1,400 to  250mmbbls in January 2014?
Hat tip to Spark notes - Spark notes link

Tuesday, 10 March 2015

Thoughts post Cairn FY14 results & India tax update

By Kim Fustier

Since we posted our blog about Cairn's results presentation, the company has released material news on the Cairn India tax situation. It confirmed that it has received from the Indian income tax department a draft assessment order quantifying the tax claim for the 2006-07 fiscal year at $1.6bn, plus any applicable interest and penalties. Cairn had not previously given guidance on the Indian tax assessment. 

When the dispute was first announced, the shares dropped by around $400m over four days. Whether anymore of the claimed liability will be priced in, time will tell.

It is worth noting that Cairn has not made nor intends to make accounting provisions to reflect the Indian tax claim, indicating its level of confidence in resolving the issue to its advantage. 

After the jump: Notes from Cairn's FY14 presentation

Thursday, 5 March 2015

African Petroleum - Initiation

by Will Forbes

We initiate on African Petroleum (see link). Pure play E&Ps are not in favour of late as poor exploration results in recent years and the falling oil price has depressed sentiment. However, for investors willing to look through near-term oil prices and seek exposure to exploration risk, African Petroleum has ten offshore blocks with large working interest positions, many of which are very close to successful wells drilled in 2014 (not least SNE-1 and FAN-1 off Senegal, and Total off Côte d'Ivoire) - as seen below.

Farm-outs are needed, but the company should been able to retain material enough ownership to offer significant exposure to drilling in the coming years.

With no wells currently funded, it is too early to assign a RENAV, but we speculate that if successfully farmed out, the three blocks with drilling in 2015-16 may indicate a combined pre-drill valuation of NOK1.1/share. This implies upside, should the company be successful in farming down its portfolio. In addition, a commercial discovery should deliver further material upside.

After the jump: Maps of APCL's acreage

Finite storage capacity could call time on the financial demand currently supporting oil prices

By Peter Lynch

Did you know the Baker Hughes rig count is falling? Of course you did, it’s the equivalent to talking about house prices in oil circles. Yet US production growth hasn’t so much as stuttered since the Saudi’s decided US shale should just settle down, why? We think readily available storage, both fixed and floating, is supporting spot oil prices beyond the fundamentals as traders profit from the ‘contango’ in the oil futures market, buying spot, adding to storage and selling forward ~ VLCC tanker rates have reached levels not seen since 2008 as traders build a flotilla of floating crude storage. 

Time though, could be running out for this trade as global oil stocks progress towards capacity limits both in Europe and the US. We suggest a growing lack of available storage capacity could call time on the recent financial life support in the oil markets, leaving spot prices to reflect weak underlying demand and a burgeoning overhang in storage. As a result we would caution buying the recent equity rally in oils, fuelled by pricing recovering to over $60/bbl, we would also recommend exposure to oil storage capacity and crude tanker rates, either through derivatives or direct equity in VLCC tanker operators.  

Brent futures curve ~ steep contango encourages adding to storage
Source: Bloomberg

Available storage supporting spot prices for oil 
We see storage as acting as life support for near-term oil prices since the precipitous collapse in late 2014. Despite spot prices having traded below $50/bbl the futures strip has remained in steep contango….with forward prices two years out being sustained in the $70-$80/bbl range….supported by the oil industry acting in unison to announce capex cuts in response to low pricing. As a commodity trader, If I’m buying spot and selling forward on the same day, effectively taking no risk and booking the spread, I’m hugely dependent on available storage to execute this trade. Hence when storage capacity is full…no more traders buying spot… falls to the level of fundamental demand, not to mention prices reflecting the physical overhang of stocks being full at that point….ouch.

US Crude oil stocks continue to build aggressively

Rising VLLC tanker rates likely to indicate storage is filling in Europe
On the basis of the chart extrapolating the build in US stocks shown below, the hard limit of US storage may be approaching, note WTI now trades at a $10 discount to Brent at c$50/bbl reflecting a relative oversupply in the US market. In Europe, stock levels are more opaque, added to this availability of floating storage ….i.e. the number of tankers available to sit idle on the water holding crude…hence timing the crunch point is even harder to call than in the US. Whilst forecasting the point at which stocks in Europe reach capacity may be harder than in the US, signs that stocks are filling should be clear to see, falling spot prices for Brent will be an indication the process adding to storage is becoming more difficult, though an earlier indication is likely to come in the form of rising VLCC tanker rates, as tankers are removed from the fleet to sit idle holding crude, squeezing rates at the margin. According to Teekay shipping, VLCC (Very Large Crude Carrier) rates are now at their highest since 2008, with 30 vessels moving onto time charter with storage in January, this looks set to continue.  

 West Africa to US Atlantic route, VLCC tanker rates over $60,000/day
Source: Bloomberg

Hard limits on storage to withdraw financial demand for crude
Storage levels continue to build on both sides of the Atlantic whilst VLCC tanker rates have reached levels not seen since 2008. We suggest the lack of available storage capacity could be about to call time on the recent financial life support at play in the oil markets. As a result we would caution buying the recent equity rally on the back of recovering oil prices, we’d also recommend gaining exposure to available oil storage capacity or even better, VLCC tanker rates, either through derivatives on tanker rates, or direct equity in VLCC tanker operators, as storage is likely to trade at an increasing premium the closer to capacity we get.  

What happens with worldwide crude stocks at capacity
Another storage mechanism in the US marked by its absence from current debate is the US strategic petroleum reserve (SPR). My outside bet is if conventional and floating storage fills to capacity, and spot prices crater as a result, the US government could justify stepping in to add to its reserve.…again supporting the market and its own shale industry.

Tuesday, 3 March 2015

Five themes from oil majors’ 2015 updates

By Kim Fustier

This post is an excerpt from the latest edition of our Catalytic Converter monthly (link), published on 25 February 2015.

As the Big Oil year-end 2014 reporting season draws to an end, we reflect on the main messages from the strategy updates. 

Theme 1: Double-digit capex cuts in 2015

The number 1 theme to emerge from the European and US majors’ full-year 2014 results presentations/annual strategy updates was the reduction in capital expenditures for 2015. Capex cuts for the group were broadly in line with expectations, coming in at c 13% y/y on average and c 15% vs previous guidance (which assumed small capex hikes). The biggest y-o-y declines in percentage terms were at BG, Eni and BP with 13-31% cuts. By contrast, well-capitalised supermajors Shell and Exxon expressed a desire to not “overreact” to lower oil prices, and are likely to reduce 2015 spend only by mid- or high single digits. 

Key areas of capex reductions include: 

  • exploration and access spend, expected to be down 10-30% y-o-y;
  • unsanctioned projects, particularly complex deepwater and LNG projects, where there is scope for material cost reductions in the current downcycle, either through re-engineering or renegotiating with suppliers; 
  • high-cost marginal projects that are no longer economic at lower oil prices and put on a long backburner, such as Canadian oil sands and greenfield LNG in Australia and Canada;
  • short-cycle projects such as in-fill wells or tie-backs with six-month to two-year paybacks that no longer work at the current near-term forward curve. This particularly affects mature regions such as North Sea, but also West Africa and the Gulf of Mexico; and
  • US tight/shale oil and gas drilling, especially outside core liquids-rich areas. 

Exhibit 1: Oil price break-even by asset class. Many projects do not work at $70-80/bbl Brent

Source: Chevron March 2014 Analyst Day, Wood Mackenzie

Exploration Watch - Falklands

by Elaine Reynolds

‘Exploration watch’ is a regular Edison publication focusing on upcoming exploration activity and the impact on notable E&Ps. 

In this inaugural edition, we look at the upcoming campaign in the North Falklands Basin where the first well, Zebedee, is due to spud in March 2015. This campaign, targeting c 350-600mmbbl, is often referred to as ‘exploration’; however, it includes a significant element of low-risk exploration together with an appraisal opportunity, especially for those looking to expand on the existing Sea Lion footprint. With Sea Lion development FID expected in 2016, appraisal and low-risk exploration elements of the upcoming Zebedee, Chatham and Jayne East wells could all add high-value barrels to the existing 393mmboe of contingent resources identified to date. The biggest exploration targets, however, lie 40km to the south of Sea Lion where the Isobel/Elaine complex could be as big again as Sea Lion. The Falklands has seen no exploration drilling for over two years, so this campaign will be a welcome return for investors interested in what is still essentially a frontier region

Appraisal and low-risk exploration included 

The high-value barrels being targeted include the low-risk Zebedee fan (50mmbbl with CoS >50%) and the appraisal element of Chatham, where the absence of a gas cap could see 60mmbbl of oil added to Sea Lion resources. We consider that these targets could contribute around half of the potential value of the campaign to the operating companies. On the flip side, we have higher risk exploration. All four wells carry higher-risk exploration elements, especially deeper plays than those proven up to date at Sea Lion and its satellites. The biggest of these by some margin is Isobel Deep, which lies 40km to the south of Sea Lion with FOGL estimating an impressive 240mmbbl of resources for Isobel Deep and Isobel. With shallower stacked fans also prospective, it is not difficult to see how the surrounding Isobel/Elaine complex could be as big as Sea Lion, albeit we are many wells away from understanding this fully. 

Greatest upside for FOGL and Rockhopper

Our ‘Exploration watch’ is largely focused on the rocks. However, we will also, where appropriate, try to link upcoming exploration activity with share price implications. For the upcoming North Falklands Basin campaign, investors in all three of the participating companies, Premier Oil, Rockhopper and FOGL, could be looking at significant upside. This is especially the case for those with stakes in the two juniors, which are being largely carried by Premier throughout the campaign. We estimate that EV/share on a risked basis for the coming campaign will match current share prices for both Rockhopper and FOGL, while for Premier holders the campaign still represents a sizeable 25% of the share price (and a substantial 70% of its 2015 exploration budget).

For more detail, see the full report here