Tullow - Fast forward to FY24
All,
Please find our updated model here.
Tullow is in the process of an Unmodified Dutch Auction to purchase and cancel some of their Senior Notes (subordinated), with a minimum price of 55.5%. The reality is this is just tinkering at the sides and depending on oil prices over FY23 and FY24, Tullow will need to refinance at the end of FY24 $1.3bn - $2.3bn. The width of the range is determined by changing oil prices from $60/bbl to $100/bbl, highlighting the sensitivity of Tullow’s deleveraging path to oil prices.
Investment Considerations:
- Perhaps our oil price range is too wide ($60-$100/bbl) but the sensitivity to oil price of any potential recovery from refinancing ranges from 0% to 100% for both the senior Secured and Sub bonds, which makes it extremely difficult to invest in at this time.
- Tullow’s performance over the next few years is highly charged to oil prices, which will only increase as hedges roll off.
- We fully expect Tullow to remain a performing High Yield in FY23 with the Company’s focus on increasing daily production levels from the drilling program in Ghana. Tullow has moved all of its drilling projects to the Jubilee field, pushing production above 100,000 Gross at Jubilee.
- In the intervening time between now and a potential refinancing/restructuring in late FY24, both bonds will continue to pay coupons, with trading levels determined by oil price evolution.
- Operational momentum remains in the Company’s favour, but without support from the oil price, operational excellence will not refinance the bonds. Therefore, a restructuring would become inevitable.
Fast Forward to December FY24:
- What is the debt capacity of Tullow, with its sensitivities to oil prices?
- Our starting point is affordability, and calculating interest coverage, after CAPEX, decommissioning, lease payments and taxes, of 2.0x, generating the below table.
- These debt levels are then compared to the net debt FY24 of $1.3bn - $2.3bn, on the same oil price assumption, giving recovery rates for both bonds between 0% and 100%. This is before adjusting the debt capacity for the outstanding disputed tax claims against Tullow, leaving investing Tullow highly sensitive to the oil price movement.
- At a flat $80/bbl assumption, and a $200m super senior tax liability, the Senior Secured bonds would recover, via refinancing at 10-14% range, between 77% (current trading levels) and 100%. The recovery would be boosted by potentially having some equity upside from the partial recovery.
- The sub-bonds need a flat $90/bbl assumption, with all other assumptions staying the same. Depending on the refinancing coupon, the recovery under these circumstances would be between 61% (current trading levels) and 100%.
- The reserves by the end of FY24 would have depleted from the current levels of Jubilee 150 and TEN 40 mboe to c.125 and 30 mboe without any transfer of contingent reserves into Commercial reserves. In reality, Tullow is spending $800m of CAPEX over the next two years, predominately on Ghanaian fields, so it would be a very poor return if no additional reserves were added to the Commercial reserve total. This should ensure a similar level of Commercial reserves to current levels.
Therefore, what are the self-help options:
- Firstly, the current bond tender, via Unmodified Dutch Auction, is accretive and allows the Company to deleverage. However, this can’t be done in any meaningful size, given the obvious cash constraint. We estimate that Tullow will have c.$350m of cash at H123 after the bond purchases (assuming $75/bbl). The second constraint is the Consolidated Leverage ratio, which includes some capital leases, namely related to the TEN FPSO. This is an incurrence test and is set at 1.5x.
- Other options available to the Company is monetising some of its non-core assets:
Tullow will receive further contingent payments from previous disposals, with oil prices sitting above $60/bbl. Tullow will receive a share of the revenue from Total in Uganda, c.$15-50m p.a. depending on oil prices ($70-$100/bbl). This is for the duration of the licence and is uncapped. Additionally, in Gabon and Equatorial Guinea, there is also the potential for $3-8m p.a. for the next 5 years. Again these are small cash flows but could be monetised for c. $200m, mainly for the Total receivable in Uganda.
Sale of non-operated interests, namely Gabon and Côte d’Ivoire assets, which combined produce 14k boepd. Tullow have already announced that they are reviewing their investment in the Espoir field, in Côte d’Ivoire. Tullow has previously sold non-operated assets, namely in Gabon and Equatorial Guinea in February 2021. Oil price was in the $50-60/bbl range when the transaction was announced, but using similar metrics, Tullow could sell it for $500-700m. We don’t envisage a full sale of non-core assets, but further small piecemeal sales of $100-200m are probable.
Sale of Kenya - We are becoming more disillusioned with the Kenya project, due to the repeated time delays and especially now that Tullow’s partners, Total and Africa Oil, have effectively walked away from the project for nil consideration. We assign a low probability of any sale of this asset before any refinancing need.
Glaring issue - Tax liabilities:
- The Company has provided no further update since the Annual Report on the outstanding tax issues.
- We have summarised the tax issues in our piece, but in summary, there are three outstanding issues with the Ghanaian Authorities, c.$700m, with all three in the process of International arbitration. However, the timeframes are long, and in some instances, the first meeting has not been arranged.
- The other two issues can be split between a tax liability in Bangladesh for $118m and $280m which appear to be related to current claims not yet resolved.
- In our assumptions, we have treated them as liabilities, but the timing of any cash flow is highly uncertain. Potentially, there is scope for these claims to be dropped.
- However, the impact of the magnitude of tax liabilities is largely irrelevant to recoveries to bondholders except in the narrow $60-80/bbl range. Outside this range, the fate of recoveries is largely dependent on oil prices.
Our Model Changes:
- We have moved our analysis from EBITDAX to EBITDA, adjusting for the lease obligations, mainly associated with the FPSOs.
- In addition, we have adjusted our production expectations, but they broadly remain in the same range. FY23 production is 61.7k boepd, versus Company guidance of 58-64k boepd. We would expect the Company to be at the top end of its range. This is justified by the first of the five Jubilee wells to be drilled this year came online in early May, ahead of expectations. In addition, all of the drillings is at Jubilee, which is a higher-quality asset making production more predictable.
- In our model we have assumed Tullow buys back $160m of the sub bonds, at 62%, spending $100m, $25m more than the minimum amount.
- As per Company guidance, we have backloaded production and therefore cash generation to H223. This is due to primarily the higher drilling levels in H1 and associated CAPEX, higher decommissioning costs in H1 than H2 and the water injection issues that were resolved in February.
Tomás
E: tmannion@sarria.co.uk
T: +44 20 3744 7009
www.sarria.co.uk