Oil Search Ltd (OSH) – NEUTRAL
|Date of Report||ASX||Price||Price Target||Analyst Recommendation|
|Date of Report|
|Sector: Energy||52-Week Range: A$6.37 – 9.26|
|Industry: Oil & Gas Exploration and Production||Market Cap: A$13,758.4m|
We rate OSH as a Neutral for the following reasons:
- Globally attractive assets, with attractive cost structure.
- Upside from the recertification at foundation PNG LNG.
- Opportunities to de-risk LNG expansion with ExxonMobil.
- Potential M&A activity.
- Strong balance sheet position.
We see the following key risks to our investment thesis:
- Supply and demand imbalance in global oil/gas markets.
- Lower oil / LNG prices.
- Production disruptions.
- Execution risk around LNG expansion.
- Adverse policy changes in PNG (the government is a key cornerstone investor in the project).
OSH fell ~2% after reporting its 1H18 results, which saw NPAT fall to US$79.2m (down -38.7% on pcp) after sales dropped -17.5% to US$557.8m due to the earthquakes in Papua New Guinea in Feb-18.
Management described the half as “one of the most challenging in the Company’s 89-year history”. On a positive note OSH narrowed its full year production guidance to 24 – 26mmboe on improved production outlook in the second half, whilst also narrowing the production costs guidance to US$11-13/boe for FY18.
We maintain our Neutral recommendation. We highly regard OSH’s PNG assets and management team. Whilst some growth projects are long-dated, we note the Alaskan opportunity provides leverage to oil prices and is progressing well.
- 1H18 results. Compared to the pcp:
1. Total production fell -31% to 10.24mmboe, impacted by temporary shut-down of oil search-operated production and PNG LNG project following the earthquake.
2. Average realized oil and condensate price went up +34% to US$71.45/barrel.
3. Average realized LNG and gas price up +18% to US$9.02/mmBtu.
4. Total revenue declined -17.5% on pcp to US$557.8m.
5. NPAT declined -39% to US$79.2 – impacted by earthquake, partially offset by stronger global oil and gas prices, -30% reduction in D&A expense and -51% reduction in exploration expense.
6. An interim dividend of US2cps (vs US4cps in 1H17), representing a payout ratio of 38.5% (within board’s range of 35%-50%).
7. Liquidity includes US$412.1m in cash & US$850m in undrawn credit facilities.
- 2018 full year outlook. Management upgraded FY18 production guidance to 24-26mmboe, while narrowing the production costs guidance to US$11-13/boe. Management left the guidance for other operating costs and depreciation & amortization unchanged and expects total capex for FY18 to be US$435m-530m.
- PNG oil field and associated opportunities. During the presentation management highlighted that there is the potential to extend plateau oil production until 2023-24 and add more than 30mmmbbl to reserves in the coming years (i.e. more than 50% increase in reserves).
- Papua LNG and PNG LNG projects progressing. OSH has reached alignment on the preferred downstream concept for the next phase of LNG development in PNG comprising, potential construction of three LNG trains producing approximately 8 MTPA, with two trains supplied with gas from the Elk-Antelope fields and one train underpinned by gas from the PNG LNG fields and the P’nyang field, all co-located on the existing PNG LNG plant site. The total resources in P’nyang and Elk-Antelope on a 1C and 2C basis have increased to more than 8tcf and 11tcf, following recertification of the P’nyang gas field in 1H18. Management confirmed that the engagement between the State Negotiation Team and PRL 15 and PRL 3, to negotiate gas agreements is underway.
- Alaskan-progressing well. ConocoPhillips carried out an appraisal drilling at the Putu 2 well which delivered strong results with the well now expected to have better reservoir properties, which has indicated that there is potential resource upside within the Pikka Unit from OSH’s previous estimates of 500 mmbbl of 2C contingent oil resource.
1H18 results summary…
Figure 1: 1H18 P&L summary
Papua LNG and PNG LNG projects progressing. OSH has reached alignment on the preferred downstream concept for the next phase of LNG development in PNG comprising, potential construction of three LNG trains producing approximately 8 MTPA, with two trains supplied with gas from the Elk-Antelope fields and one train underpinned by gas from the PNG LNG fields and the P’nyang field, all co-located on the existing PNG LNG plant site. The total resources in P’nyang and Elk-Antelope on a 1C and 2C basis have increased to more than 8tcf and 11tcf, following recertification of the P’nyang gas field in 1H18. Management confirmed that the engagement between the State Negotiation Team and PRL 15 and PRL 3, to negotiate gas agreements is underway.
New SPA’s signed with PetroChina and BP. PNG LNG entered into two mid-term LNG sale and purchase agreements (SPAs) with PetroChina and BP, broadening the customer base for LNG from PNG and increasing total contracted volumes to approximately 7.5 MTPA. PetroChina SPA, involves a supply 0.45 MTPA of LNG for three years, commencing July 2018 and under the BP SPA, project would supply ~0.45 MTPA of LNG for three years (commencing August 2018), and ~0.9 MTPA for two years thereafter. Management noted, “ExxonMobil, on behalf of the PNG LNG Project participants, is in negotiations with a number of other parties for the final mid-term tranche of 0.45 MTPA, which is expected to be completed in the near-term.”
Alaskan-progressing well. ConocoPhillips carried out an appraisal drilling at the Putu 2 well which delivered strong results with the well now expected to have better reservoir properties, which has indicated that there is potential resource upside within the Pikka Unit from OSH’s previous estimates of 500 mmbbl of 2C contingent oil resource. Management noted that the next major milestone in Alaska is the 2018/19 drilling programme, which would commence in 4Q18, expecting to lead to a front-end engineering and design (FEED) entry in mid FY19, for the development of the Nanushuk oil field which is expected to start delivering oil by 2023.
Global demand expected to outstrip supply by 2021. Global LNG demand grew +11% in 2017 and +7% higher in 1H18 compared to pcp. LNG demand growth is expected to be >4.5% p.a. to 2030 with majority of the demand coming from China and South Korea as ongoing air quality concerns in the countries have led them to prioritize gas and renewable generation over coal and nuclear. Management pointed that supply should shortfall of ~135 MTPA by 2030 and new LNG projects would be required to meet supply demand gap from 2021.
Figure 2: Global LNG Supply/Demand Thematic
Figure 3: OSH Financial Summary
Source: BTIG, Company, Bloomberg
Oil Search Limited (OSH) explores for and produces gas and oil through operations in Papua New Guinea. The company’s activities are located in the Papuan Highlands which include Kutubu, Hides, and Gobe oil and gas projects.
Recommendation Rating Guide
|Recommendation Rating Guide||Total Return Expectations on a 12-mth view|
|Speculative Buy||Greater than +30%|
|Buy||Greater than +10%|
|Neutral||Greater than 0%|
|Sell||Less than -10%|
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