Santos Ltd (STO) – Neutral

Santos (STO) delivered a solid first half 2018 (1H18) results, with the company declaring its first dividend since 2016.


Date of ReportASXPricePrice TargetAnalyst Recommendation
27/08/18STOA$6.89 A$7.00 NEUTRAL
Date of Report






Price Target


Analyst Recommendation


Sector : Energy52-Week Range: A$3.47 – 7.03
Industry: Oil & Gas Market Cap: A$14,352.0m

Source: Bloomberg

Company Description


We rate STO as a Neutral for the following reasons:

  • Highly leveraged to the oil price.
  • Offers a number of core assets within its portfolio (no single asset risk).
  • On-going focus on cost reduction and positioning of the business for lower oil price environment.
  • Potential M&A activity – currently under cash takeover offer.
  • Ramp up to GLNG.
  • Balance sheet position is being restored.
  • Strategic shareholders (potential corporate activity).

We see the following key risks to our investment thesis:

  • Supply and demand imbalance in global oil/gas markets.
  • Lower oil / LNG prices.
  • Not meeting cost-out targets (e.g. reducing breakeven oil cash price).
  • Production disruptions (not meeting GLNG ramp up targets).
  • Strategic investors sell down their stake or block any potential M&A activity.

Figure 1: STO Revenue by Segment

Source: Company

Figure 2: STO EBITDAX by Segment

Source: Company


Santos (STO) delivered a solid first half 2018 (1H18) results, with the company declaring its first dividend since 2016. .

However, largely overshadowing this was the announcement that STO has agreed to purchase Quadrant Energy for US$2.15bn, beefing up STO’s natural gas assets with the deal increasing its reserves by more than +26%, will deliver around +17% free cash flow accretion on a per share basis and +30% EBITDAX accretion.

In our view this acquisition makes strategic sense and the fact that the Company declared a dividend whilst announcing this acquisition speaks to the confidence in the Company’s outlook.

Key headline numbers for 1H18:

1. Product sales up +16% to US$1.68bn;

2. EBITDAX up +23% to US$883m;

3. Underlying NPAT up +99%;

4. The Company has maintained its full year sales target of 72-76 mmboe.

We maintain our Neutral recommendation. We believe the stock offers significant leverage to the oil price relative to peers, business has been repositioned and now focused on growth opportunities available (rather than survival).

  • 1H18 key points.

1. FCF. First half saw free cash flow increase by +22% on previous corresponding period (pcp) despite a negative impact of $70m from PNG due to the earthquake. Management expect 2018 free cash flow breakeven price of US$35/bbl.

2. Net Debt. Net debt reduced -17% to US$2.4bn (from to US$2.7bn).

3. NPAT. Underlying NPAT was up +99%.

4. Earning. Operating earnings excluding exploration (EBITDAX) were up +23% on pcp, driven by higher commodity prices and revenue.

  • Dividends reinstated. In our view, this was the key highlight from the 1H18 results as it speaks to management’s confidence in the outlook and current operating assets. Given management now have successfully repositioned the business to a low-cost operating model, paid down debt and invested in growth opportunities, the Board has declared STO’s first dividend since 2016. The Company will pay an interim dividend of US3.5cps.
  • Quadrant Energy acquisition. Overshadowing the first half result and announcement of the first dividend since 2016 was the announcement to acquire 100% of Quadrant Energy for US$2.15bn. In our view, this appears to be an attractive acquisition at fair value. It will increase 2P reserves by 220 million barrels of oil equivalent, around +26%. Annual production will increase by 19 million barrels of oil equivalent, around 32%. In the first full year of ownership, it will deliver around +17% free cash flow accretion on a per share basis and about +30% EBITDAX accretion. The asset will also lower STO’s free cash flow breakeven to US$32 per barrel. There is significant portfolio overlap between STO and Quadrant, and management see opportunity to capture synergies of US$30 – 50m p.a.
  • Keeping an eye on debt levels. STO will fund the acquisitions from debt facilities and existing cash. Management expects pro forma net gearing to be approximately 34% on completion and then fall below 30% by the end of 2019, with a medium-term target of less than 25%. Whilst we are positive on energy prices in the short term, we do believe this potentially represents some risk should oil prices decline significantly.


Figure 3: Summary of key results

Source: Company, BTIG.


Key points: 

  • The Quadrant portfolio will increase STO’s 2P reserves by 220 million barrels of oil equivalent (mmboe), or by approximately 26%. Annual production will increase by 19 million barrels of oil equivalent, or approximately 32%. Material synergies make this a strongly earnings per share (EPS) and value accretive transaction.
  • Completion is expected by the end of 2018 and is subject to the usual consents and regulatory approvals, including the ACCC.
  • In the first full year of ownership, Quadrant will deliver around 17% free cash flow accretion on a per share basis and about 30% EBITDAX accretion. The deal is fully funded with strong forward cash flows to support the growth pipeline of the combined companies as well as enhanced dividends for shareholders.
  • Funding will come from new committed debt facilities and existing cash resources, with STO in a strong position as at 30 Jun-18 with $1.5bn cash on hand. The new committed debt facilities total $1.2bn, a $600 million 5.5-year bank term loan facility and a $600 million 2-year bridge facility. The Company expects pro forma net gearing of approximately 34% at the completion of the deal, which is expected to fall below 30% by the end of 2019. Management want to maintain good financial discipline and therefore hold medium-term target of less than 25%.
  • The acquisition of Quadrant’s assets adds low cost, long life conventional production will lower our pro forma 2018 free cash flow breakeven by $4 per barrel to $32 per barrel. There is significant portfolio overlap between Santos and Quadrant, which means there is real opportunity to capture material combination synergies in the order of $30-50m p.a.

Figure 4: Quadrant Energy – assets well known to STO width=

Source: Company

Figure 5: STO Financial Summary

Source: BTIG, Company, Bloomberg


Santos Limited (STO) explores for and produces natural gas, liquefied natural gas, crude oil, condensate, naptha and liquid petroleum gas. STO conducts major onshore and offshore petroleum exploration and production activities in Australia, Papua New Guinea, Indonesia, Vietnam. The company also transports crude oil by pipeline.

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