Weak Production Casts Doubt Over Beach Energy

This story features BEACH ENERGY LIMITED. For more info SHARE ANALYSIS: BPT

While most analysts are willing to look past a lower production outlook for Beach Energy, not all brokers are willing to factor in quality growth prospects until future exploration success is proven

By Mark Story

Beach Energy ((BPT)) did little to ingratiate the market when it slashed the value of its Otway Basin reserves while simultaneously reporting a significantly lower FY21 profit, down -36.6% on the previous year, courtesy of reduced volumes from its problematic Cooper Basin Western Flank fields.

Citi argues that an FY22 production guidance miss overshadows a 4% earnings beat versus the broker's forecast. The beat flowed through to FY21 core net profit of $363m, which beat Citi and consensus expectations by 12% and 11% respectively.

However, much of this beat was due primarily to an arbitration win against Genesis in relation to carbon tax payments from Kupe.

Citi takes the view that after exhausting the negative news flow that has weighed on the oil and gas producer’s share price, there’s reason for optimism leading into what is expected to be a positive Strategy Day in September.

Much of Citi’s confidence in Beach comes from an expectation the company will use Strategy Day to instruct the market that FY22 represents the bottom of their production profile, with growth to resume in FY23 (up 11%) as Waitsia and the Otway ramp-up.

In an attempt to preempt Strategy Day, Citi has upgraded its Waitsia valuation on stronger LNG contracting expectations and highlights exploration upside in the Perth basin, Western Flank, and the Otway Basin.

As a result, Citi has upgraded Beach to a Buy from Neutral rating and argues that the weakened share price has factored in FY22 lows, without paying for what the broker views as quality growth prospects. The broker’s new target price of $1.27 implies a 12-month expected total return, including dividends, of 18%.

Given heightened investor skepticism of management’s ability to execute, Ord Minnett admits it may be some time before Beach trades at fair value. But despite weak production guidance highlighting the impact of well interference issues at Western Flank, Ord Minnett maintains a Buy recommendation with the stock still trading at a sizeable discount to the broker’s $1.70 target price.

The broker believes if all of Beach’s plans come to fruition, the company should offer significant production growth. Despite growth being materially tested in recent months, the broker believes the internally funded outlook at Waitsia and Otway could potentially result in a 30–40% increase in production over time.

Despite weak FY22 guidance, Bell Potter also believes Beach continues to advance major growth projects that support near-term production and earnings growth. The broker cites the Victorian Otways where two new wells are expected to come online in mid-FY22 and a third in second half FY23 to raise production to plant capacity.

While Bell Potter has lowered its target price to $1.60 from $1.85 to reflect the weaker production outlook, the broker maintains a Buy and expects Beach’s strong balance sheet to support its growth ambitions, given the company's net cash position and available liquidity.

LNG markets buoyant

Meanwhile Jarden, which also has a Buy rating and a target price of $1.55, reminds investors that the reserves downgrade was limited to Western Flank, while LNG markets remain buoyant.

Jarden believes Waitsia LNG volumes are being marketed at an opportune time and suspects LNG pricing could surpass expectations (US$8/mmbtu). Jarden also notes, a US$1/mmbtu increase in price would increase the broker’s valuation by 5cps.

Jarden also expects FY22 to be Beach’s trough production year, with a modest uptick in FY23 before ramping up to 35mmboe in FY26 due to Waitsia, Victorian Otway, and Trefoil contributions.

Morgans, which also has a Buy rating on Beach, suspects the company could also seek to fund its Bass gas development by selling down some of its majority position in the assets. Despite concerns about the company’s reserves, the broker thinks the market is undervaluing Beach’s growth program and expects increased gas production to be evident by third quarter FY21.

Goldman Sachs also notes that while investors remain focused on the Western Flank outlook – with reserve life reduced to 4 years on FY21 production rates — the ramp-up of Waitsia with LNG sales and Otway from FY23 is expected to return the portfolio to growth.

A more cautious view

While Macquarie agrees that Otway and Waitsia projects will be key to Beach’s future production beyond FY23, the broker has a diametrically more cautious view of the company.

Macquarie has downgraded Beach to a Neutral from an Outperform rating after factoring in weak production guidance and disappointing outlook commentary.

The broker believes Western Flank oil production rates decline of -15-20% per quarter through FY22 – as flagged by the company — point to a longer production tail (lower value) for the asset and foresees negative free cash flow (FCF) in FY22 and FY23 as a $2bn capex cycle is executed upon.

Having taken a more wary stance on Western Flank oil declines and Otway forward capex, Macquarie’s price target is lowered -25% to $1.20. Macquarie’s earnings forecasts fall -8% in FY22 and -26% in FY23 – largely due to ongoing Western Flank oil declines.

Macquarie notes any assumed stabilisation in FY23 now appears reliant on exploration success, which the broker tends not to factor in until proven.

Unlike more favourable broker outlooks, Macquarie doesn’t believe Beach is low-balling its production outlook for FY22, and the broker’s FY25 production estimate is now 30MMBoe versus the 37MMboe previously guided in management's now-withdrawn five-year outlook.

While Macquarie has taken a more conservative stance on modelling of Beach’s legacy oil declines and the capex intensity of its growth, the broker recognises the gas growth strategy and acknowledges there could be upside potential to the target price long term.

FNArena's database has four Buy and two Hold ratings. Goldman Sachs, which is not on the FNArena database has a Neutral rating.

The consensus target is $1.50 which suggests 38.1% upside to the last traded share price.

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.

FNArena is proud about its track record and past achievements: Ten Years On

Click to view our Glossary of Financial Terms