The State Of Origin

This story features ORIGIN ENERGY LIMITED, and other companies. For more info SHARE ANALYSIS: ORG

By Greg Peel

“Based on current market conditions for oil prices, exchange rates and interest rates” noted Origin Energy ((ORG)) management last October, “and allowing for a range of outcomes in relation to timing of receipt of the payment from ConocoPhillips and the subsequent on-market buyback, Origin expects that underlying profit for the current financial year will be approximately 30-40% higher than the previous year”. This remains the most recent profit guidance provided by the company.

The Conoco payment is now in the bag, and with retrospect the analysts at ABN Amro have shaken their heads and suggested that the timing of the sale of half Origin’s coal seam methane assets last year was “nothing short of impeccable”. One doubts whether management was keen to sell early last year in the sincere belief the oil price was about to collapse as it has, so ABN suggests there was quite an element of luck involved.

But one cannot say it was all luck. We recall that it was British gas giant BG which first delivered the CSM wake-up call by bidding for Origin out of the blue at a significant premium. This took analysts and investors completely by surprise. The value of coal seam methane – at least as far as the world’s oil and gas giants saw it – was simply not appreciated. And then Origin turned around and rejected the bid, much to everyone’s dismay, suggesting the company’s CSM assets were worth even more than BG was implying. There were a couple of months of argy-bargy and then in came Conoco to fully justify Origin management’s stance (but not before Petronas swooped on a deal with Santos ((STO))). Analysts were agog, but duly chastened.

But that was then and this is now. Origin’s 30-40% profit growth guidance also depends on oil prices and exchange and interest rates, all of which are materially different in 2009 than they were last October. In short, analysts have been expecting Origin would issue fresh guidance anytime soon and that said guidance would largely involve a big profit downgrade. That’s pretty much what the market has been expecting as well, given Origin’s share price has slumped from nearly $20 to under $14.

However, management has responded by suggesting that while the market will have to wait until the release of Origin’s half-year result on February 26 to receive fresh guidance, were that guidance to be materially different then the company would have said so by now. In other words, Origin is flagging only a modest possible change to guidance and has left the 30-40% figure intact for now.

This has left analysts scratching their heads. With oil down 50% in AUD terms since October, interest being received on the Conoco payment being eroded by falling rates, and 51%-owned Contact Energy ((CEN)) having issued its own profit warning, analysts can only assume Origin’s fortunes in FY09 are likely to be a lot less impressive than FY08.

And to top it off, the company’s second quarter production report was a disappointing one. Timing of crude oil sales, notes Credit Suisse, meant Origin was only able to achieve 77% of average quarterly West Texas Intermediate benchmark prices while condensate (diesel etc) was a rather low 54%. Actual production was also some 16% lower than the first quarter, Credit Suisse notes, once adjusting for the CSM selldown.

How, one might ask, does Origin believe it will still improve profit substantially?

Deutsche Bank analysts have adjusted their own numbers to assume only a 20% increase in FY09 profit. This is still a terrific number, but it’s not 30%. On an earnings per share basis the increase will actually be 30% but that’s because of last year’s share buyback. Indeed, the fact that the buyback was suspended without explanation in December is simply another reason why the market has sold Origin down in anticipation of bad news. The buyback is expected to recommence after the result is released.

Analysts suggest the market is also a bit spooked by an expectation Origin may bid for the remaining shares in Contact Energy, thus using up valuable cash in securing what is a more marginal asset. However, analysts are generally of the belief this will not happen in the near future and that Origin will maintain its excellent track record of accretive acquisitions.

What all this is adding up to is that while analysts are bracing for a profit downgrade of at least some magnitude this month, it would seem the Origin share price has been trashed just a bit too much. Indeed, Origin scores almost a perfect ten out of ten of Buy recommendations in the FNArena database. The only qualification is a slightly less enthusiastic “Accumulate” from Aspect Huntley rather than an all-out “Buy”. With the stock price trading this morning under $14.00 the average target amongst the broker’s in the database is $20.45.

Now – contrarian wisdom suggests that if everyone agrees something must go up, it will probably go down. Yet in the case of Origin one might consider that a profit warning of any sort could provide a great buying opportunity from here, if one is not yet convinced Origin is good buying at this level. But you might have to be quick.

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