Origin Redefines Position In Energy Market

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Origin Energy has completed the sale of its Darling Downs pipeline, accumulating more than $1bn in proceeds from asset sales so far, and brokers assess the company's progress in redefining its position in the energy market.

-Net debt should reduce to around $8.5bn by end of June
-Origin secures gas transport service on the pipeline ranging from 10-30 years
-Potential for dividend to be reinstated in FY18
 

By Eva Brocklehurst

Origin Energy ((ORG)) has completed a tranche of asset sales with the sale of the the Darling Downs pipeline to China/Singapore-owned pipeline network operator Jemena for $392m. Totalling around $1bn, net proceeds from asset sales have now exceeded the original target of $800m and are projected to reduce the company's net debt to below $8.5bn by June 2017. This is ahead of further debt reductions once the company's Lattice Energy assets are spun out.

The sale price implies a negative operating earnings impact of $23.2m for Origin from FY18 and the main priority continues to be debt reduction. UBS calculates the proceeds and cash flow should mean net debt reduces to $8.6bn by the end of June. Further afield, the company indicates the planned divestment of most of its conventional oil & gas assets (Lattice Energy,) is on track. UBS forecasts earnings from energy markets and APLNG gas shipments to exceed $2bn in FY19.

Asset Sales

The price received for Darling Downs is at the upper end of infrastructure assets, Deutsche Bank calculates, although within expectations given the considerable appetite for infrastructure assets underpinned by long-term contracts. The company has secured gas transportation services on the pipeline network ranging from 10-30 years. Origin has three contracts over the pipeline, a 10-year portion which matches the GLNG contract and up to 30 years to match the Darling Downs power station asset life.

Citi observes that the company is turning its pipeline asset into a long-term, off-balance sheet borrowing, at an effective interest of 5.9%, which is considered very appropriate for long-dated debt with operational risk. The balance sheet, therefore, improves, although help from oil prices will be needed, the broker asserts.

Citi also calculates that, including this asset sale, FY17 net debt will reduce to around $8.5bn, although gearing remains at 39% without including the APLNG debt. Assuming a successful sale of the Lattice Energy businesses for around $1.7bn, Citi calculates this would bring gearing down to 29% by the end of FY18 at a price of US$62/bbl for oil.

The Darling Downs pipeline completes the original investment program announced in September 2015. The company has now sold the Mortlake terminal station, OTP geothermal, Mortlake pipeline, Cullerin Range wind farm, Stockyard Hill wind farm, and miscellaneous upstream assets as well as the Darling Downs pipeline.

In the case of the Stockyard Hill wind development site, sold for $110m, the company will sign a long-term power purchase agreement (PPA) from the commencement of operations in 2019 through to 2030. Origin Energy will buy all the electricity generated by the wind farm and associated Renewable Energy Certificates (REC) for a PPA price of below $60/MWh.

In Deutsche Bank's view this price is below that of previous PPAs in the industry and suggests the off-take will provide the company with a cost competitive source of electricity.

Brokers also believe the sale is positive signal for APA Group ((APA)), which Ord Minnett notes currently trades on 13-14 times consensus operating earnings. Morgan Stanley is now more comfortable about Origin's corporate debt reductions following the sale and believes the transaction has a positive read for APA.

APA has not commented on the transaction but has a long-standing strategy to evaluate any gas infrastructure investment opportunities in Australia and there was speculation that it was bidding for the Darling Downs pipeline. However, Morgan Stanley does not believe the acquisition would have been strategically critical for APA. The pipeline is an uncovered unregulated network of 292km linking Gladstone LNG, the Darling Downs power station and the Wallumbilla Hub.

Dividend

UBS believes, once the company's board has a line of sight on a net debt/operating earnings ratio below 3.0x it may reinstate the dividend. This will be further reassessed post the divestment of Lattice Energy and, for the time being, the broker forecasts the dividend being reinstated in the second half of FY18.

The next catalyst UBS expects us the successful completion of the 90-day production test at APLNG which, based on gas pipeline flow, appears to have commenced early in May. Morgan Stanley notes that New Zealand Oil & Gas ((NZO)) has acquired an additional 4% interest in the Kupe oil & gas field, of which Origin has a 50% share, implying that that share might be worth $400m, which is above Morgan Stanley's base case valuation of $320m. Kupe is part of Origin's Lattice Energy vehicle.

FNArena's database shows three Buy rating and four Hold. The consensus target is $7.59, suggesting -3.5% in downside to the last share price. Targets range from $6.40 (Deutsche Bank) to $8.63 (Morgan Stanley).
 

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