By Cardinalstone Research
SEPLAT released its FY’17 results reporting a 77.9% YoY rise in revenue to $452.2 million which reflects the positive impact of the lift of the force majeure on the Forcados’ terminal. Consequently, the firm made an after-tax profit of $265 million in FY’17, signifying a return to profitability after making a loss after tax of $166.1 million in FY’16. More so, the new alternative export route and the expected steadiness in oil price (FY’18 Consensus: $60-$70) is expected to support top-line and reduce earnings volatility in FY’18. Thus, we have reviewed our projections and revised our target price upwards to N882.65. Our target price implies an upside potential of 25.73% to the last close price of N702.00. we therefore upgrade our rating to a BUY.
Higher production output to reinforce top-line in 2018
SEPLAT returned to profitability in FY’17, reporting an after-tax profit of $265 million in FY’17 from a loss after tax of $166.1 million in FY’16. This was partly driven by the improvement in oil production following the restoration of the Trans Forcados Pipeline (TFP) terminal on June 6, 2017. The earlier damage to the terminal by the Niger Delta militants brought oil production volumes down by 65.2% to 10,091 bopd in FY’16. However, following the ceasefire in the Niger Delta region and the restoration of the terminal, average oil production volume increased by 76.9% YoY to 17,853 bopd in FY’17, resulting to a 179.4% YoY rise in oil revenue to $328.2 million. Similarly, the successful completion and commissioning of the Phase II expansion of the Oben gas processing plant early in FY’17 improved gas production by 20.4% YoY to 114.4MMscfd. Consequently, the revenue from the gas arm of the firm’s business rose by 38.0% YoY to $123.9 million in FY’17.
We expect this positive trend to be sustained; hence, we project an increase of 35.1% in average total production volume (oil and gas) to 49,895 boepd in FY’18. More so, the availability of new alternative routes, asides from the TFP terminal, that can be used for evacuation gives us comfort that production volumes are now more likely to be relatively stable in the rare event that the Forcados terminal goes down again. Finally, we expect the improved outlook for crude oil prices to further strengthen revenue in 2018 – with crude oil prices currently trending around $70/bbl compared to an average of $55/bb in 2017. All in, we project a 77.2% YoY growth in top-line to $801 million in FY’18.
Alternative export route policy to strengthen revenue growth
SEPLAT’s average production slumped by 40.0% YoY to 25,877 boepd in FY’16, majorly attributable to the declaration of force majeure at the TFP terminal which used to be the only export route available to the firm. Consequently, revenue slumped by 55.4% YoY to $254.2 million in FY’16, leading to a loss after tax of $166.1 million. Having been affected with a 16-month export downtime at the TFP terminal which led to a loss after tax in FY’16 and 9M’17, SEPLAT embraced the policy of developing alternative export routes in accordance with the de-risking of its reliance on a single export route – the TFP terminal.
SEPLAT’s focus on this policy is fixed on the availability of three independently managed export routes, and the firm intends to utilize all three as a move to enhance sustainable revenue growth. As a step towards the implementation of this policy, the firm upgraded the two jetties at the Warri refinery to a gross capacity of 30,000 bopd in FY’17 with an estimated volume of 3,312 bopd evacuated through this route during the year.
However, the export via the Warri refinery jetties come at an additional cost because of the need to use barges – flat-bottom ships that are propelled by towboats. In FY’17, barging costs of $9.1 million (about $11/bbl) were incurred by the firm. Nonetheless, these barging costs are offset somewhat with the absence of crude handling charges (FY’17: $5.3/bbl), which are characteristic of exports through the TFP. Effectively, the alternative route typically is c.$5.7/bbl more expensive than the traditional TFP route.
Also in line with the policy of alternative routes, SEPLAT inked a Funding Agreement, in December 2017, with the National Petroleum Investment Management Services (a fully owned subsidiary of NNPC), for the use of the Amukpe-Escravos Pipeline (160,000 bopd capacity) as an export route for oil produced from the firm’s OMLs 4, 38 and 41. The Amukpe-Escravos Pipeline (AEP), which is still under construction, is expected to be fully completed and commissioned in Q3’18. The capacity of the AEP will go a long way to reduce the over- reliance on the TFP (with a capacity of 240,000 bopd).
Margins to drift to more profitable zone
In FY’17, SEPLAT’s cost of sales (excluding depreciation) moved higher by 23.3% YoY to $157.9 million as royalties, which traditionally move in tandem with production, climbed 63.6% YoY to $73.3 million. Similarly, crude handling charges rose by 311.9% YoY to $32.1 million in FY’17 as 88% of the lifted crude was evacuated via the TFP during the year. We expect royalties to rise to $129.7 million in FY’18, on the back of improved production, while we expect crude handling charges to rise by 77.0% YoY to $56.9 million in FY’18 as we believe most of the lifted crude in FY’18 will be evacuated via the TFP because of its less costs.
In contrast, operational/maintenance expense declined by 25.9% YoY to $35.9 million, owing to less repairs and upgrades in the year. Barging costs also unsurprisingly slumped by 49.0% YoY to $9.1 million in FY’17, largely reflecting the resumption of export activities at the TFP terminal. Consequently, gross margin rose to 65.1% in FY’17 (FY’16: 49.6%). Given our positive outlook for revenue, we hold the view that SEPLAT’s gross margin will inch up by 5bps to 65.1% in FY’18. We observed an improvement in SEPLAT’s management of operating expenses in FY’17 as its general and administrative expenses slumped by 28.1% YoY to $81.9 million. However, following a rise of 51.1% YoY in depreciation expense to $82.1 million, the overall operating expenses moderated marginally by 2.5% YoY to $164.0 million, bringing operating margin up to 24.9% in FY’17 (FY’16: -62.1%). We expect SEPLAT’s operating margin to edge higher by 205bps YoY to 45.3% in FY’18.
Cheaper debt to suppress finance charges
As at December 31, 2017, SEPLAT’s total borrowings stood at $570 million, representing a 14.2% YoY decline, following a principal repayment of $98 million during the year. As stated in its recent note filed with the Nigerian Stock Exchange, the firm overhauled its debt portfolio in March 2018 by offering $350 million senior notes bearing interest of 9.25% due 2023. The proceeds of the debt notes will be used to refinance existing debt which bears interest rate of LIBOR plus a margin ranging from 6.5% to 8.5%. Within the same period, the firm refinanced its existing $300 million revolving credit facility due December 2018 with a new four-year US$300 million revolving credit facility bearing an interest rate of LIBOR+6% due June 2022. Given a current 6-month LIBOR of 2.45%, our estimated cost of the total newly raised debt for FY’18 is about 9.00% (FY’17: 11.79%). In view of this, we expect finance charges to move lower to $54.9 million in FY’18 (FY’17: $72.8 million) as the cost of the newly raised debt is relatively cheaper than that of the existing debt.
Bottom-line to moderate in 2018 on the back strong tax credit in 2017
The $265.2 million after tax profit reported in FY’17 was bloated by the net tax credit of $221.2 million. This emanated from the tax incentive on its pioneer status on some projects, as well as the recognition of previously unrecognized deductible capital allowances. We do not envisage this level of tax benefits in 2018; thus, we expect PAT to decline by 9.7% YoY to $239.4 million. Nevertheless, we highlight the expected improvement of 625% YoY in PBT to $319.2 in FY’18, on the back of the strong recovery in crude oil prices and production volumes.
Counter evidently offers profitable investment opportunity
The outlook for SEPLAT looks bright as the major drivers of the firm’s profitability ride to more improved levels in FY’18. The firm’s oil production is expected to remain unconstrained in FY’18, given the availability of two functional routes and the anticipated completion of another route in Q3’18. Also supporting our positive outlook for SEPLAT is the global consensus that the Brent Crude will trade within the band of $60–$70/bbl in FY’18. Furthermore, SEPLAT’s gas business will be more strengthened in FY’18, following the expansion of Oben gas processing plant that was completed in FY’17. Given the aforementioned, we have revised our target price upwards to N882.65. This implies a 25.73% upside to the last close price of N702.00. Thus, we upgrade the counter to a BUY.
CardinalStone Research -Seplat Petroleum Development Company Plc_Company Update