GLNG Start-Up In Sight For Santos

This story features SANTOS LIMITED. For more info SHARE ANALYSIS: STO

-First train to ramp up quickly
-Strong play on oil recovery
-GLNG key to positive cash flow
 

By Eva Brocklehurst

Santos ((STO)) has narrowed the window for the eagerly-anticipated start to Gladstone LNG (GLNG) production. While expecting first LNG production would occur later this year the confirmation of a September start has pleased brokers.

UBS believes there is potential for an even earlier commencement, maybe August. Guidance for GLNG is based on six months from first commissioning gas to first LNG production and QCLNG achieved the same work in 4.5 months. Once the project starts up UBS expects output for the first train to quickly ramp to capacity by early 2016. A much slower ramp-up is expected when the second train starts next year, because of the slower build-up in in the delivery of gas from upstream fields as well as lower customer nominations.

The broker does not expect full LNG contract nominations until 2019. UBS still believes GLNG is looking for more third party supplies of gas, with the recently announced Shell-BG merger putting a possible supply agreement with Arrow Energy in doubt.

Santos is the most leveraged of Australia's top three oil stocks to a recovery in the oil price and UBS expects oil prices will slowly recover, as the lower investment in oil rebalances the market in late 2016. The combination of lower sales volumes and a 22% fall in the Australian dollar oil price in the March quarter meant sales revenue was 24.3% below the fourth quarter and 7.6% below UBS estimates. Still, the broker retains a Buy rating on the back of the imminent start of GLNG.

March quarter production of 14.0mmboe was broadly in line with JP Morgan's expectations but sales were weaker as more Cooper production went into storage because of soft demand. The Mutineer Exeter floating production facility was also out of service longer than expected and will not recommence until May. On the positive side, PNG LNG production and realised prices were stronger than the broker expected. JP Morgan considers Santos a strong play on a recovery in oil in the second half, despite the credit rating and balance sheet pressures that linger in the short term.

Citi believes the outperformance at the Fairview field hub during testing could be in the order of 20% or more which may ultimately provide more gas, enabling GLNG to ramp up faster and to a higher level. The broker expects upstream capacity of over 1100TJ/d by 2016, when the second train is ready for production. The broker's new forecasts for GLNG's ramp-up suggest this will exceed contracted rates of 7.2mtpa by the end of 2016.

The fact that GLNG is progressing well is a necessity in Citi's view, in order for the company to be cash-flow positive in 2016. The broker envisages, as Santos has $2.9bn in undrawn debt and cash and a forecast cash draw of $1.3bn in 2015, it should be cash-flow positive in 2016 if oil is above US$55/bbl. Santos has repositioned its business for a lower oil price and, therefore, has ample liquidity. Its credit metrics are trending towards rating agency requirements and this implies no need to raise equity, Citi observes.

Deutsche Bank also hails the refined guidance for first LNG from GLNG. Total sales revenue in the March quarter was below the broker's forecasts because of lower than expected third party sales but as these sales are low margin, the broker envisages limited impact on the bottom line.

Progress is evident on GLNG delivery and debt reduction, the two major challenges facing the company in Morgan Stanley's view. Still, the broker does not believe this is enough to conclusively eliminate all risks posed by low oil prices. Hence, an Equal-weight rating is retained. Macquarie is also comforted by the narrowing of the GLNG start-up guidance, given funding issues are at the forefront of broker concerns.

The credit rating has seemingly been unaffected by the recent cut to Standard & Poor's oil price assumptions and the timely delivery of GLNG should partially relieve the pressure on Santos' rating, in Macquarie's view. The broker does note that lower than expected sales in the March quarter were offset by strong gas realisations, which reflected a greater mix of Western Australian and Indonesian sales, strong PNG LNG production and improved plant efficiency at Darwin LNG.

On FNArena's database there are five Buy ratings, one Hold and one Sell for Santos. The consensus target is $10.43, suggesting 32.2% upside to the last share price. The dividend yield on FY15 and FY16 estimates is 4.65 and 5.1% respectively.
 

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