Member Info for Stevo12

Banbury

We talk about a tax rate of 75% but in reality it is much higher as Decommissioning costs and interest not allowable which increases rate to closer to 80% pre capital allowance relief. The reality is that 2023 will be the last low tax pay year for Harbour due to use of historic losses against core tax and EPL not payable until 2024. Accordingly 2024 is going to be first full year of EPL and core tax.

On the positive side the poor gas hedges fall away in 2024 and if gas holds at the 150p per therm assumed for 2023, this will increase revenue and profit by $2b of which Harbour will retain approx $500m.

So my assumption is $500m of FCF for 2024 at £85 oil and 150p therm gas. Enough to fund buybacks and Dividend and with debt at or close to zero, leaves another $100m for shareholder.

However, I am struggling to understand how the $2.1b FCF for 2022 evolves into $1b for 2023. The realised price in 2022 is almost identical to that used in 2023 forecast, My Calcs are as follows:

2022 FCF 2.1b, less 8% lower production ($450m) in 2023, less increased CAPEX and ABEX ($200m), less Increased OPEX (£100m) plus lower tax payment ($100m) resulting in FCF of $1.45b. I would not expect the finance charge (lease and interest) to have increased in 2023. Accordingly I am missing $450m of additional cash costs or maybe conservatism has been built in by Harbour.

Harbours tax bill for 2023 pre use of historical losses.

EBITDAX for 2023 $3.5b, less Capital allowance ($800mx1.29), less lease costs $250m = taxable profit of $2.2m= EPL $800m (payable in 2024). Core tax (less additional $200m ab ex and $100m interest) =$1.9b @40% = $760m). Accordingly without the benefit of tax losses and the deferral of payment of EPL our tax cash cost for 2023 would have been a little over $1.5b as opposed to the $450m Harbour will actually pay. So yes without the benefit of tax losses and deferral of EPL, FCF for 2023 would be zero - that is if the 2023 forecast really is $1b.

Re your query on taxation of realised and pre hedged revenue. For both EPL and Core UK tax, Harbour is taxed on the realised price after hedges.

Stumpy

The tax charge in 22 was an accounting deferred tax charge to equalise the future accounting and cash tax charge and is not a cash reserve. No money has been put aside for EPL.

The good news is that the amount of tax forecast to be paid in 2023 is $450m and is $100m less than paid in 2022 and includes very little EPL. The EPL tax for 2023 will be paid in Oct 24 due to a payment on account tax quirk.

The $1b FCF forecast for 2023 was predicated on $85 oil, 150p per therm gas and $1.2:£. For the first six months of the year oil has been averaging around $79 and gas 110p per therm. We are going to need prices to increase substantially in the second half to hit assumptions built into the company’s forecast. Also the £ has strengthened which is also not helping as our Opex and cap ex is largely in £.

On the positive side the company were forecasting a 7% decline in production in 2023 and it going to be above forecast for first six months. We should get guidance on second half production in august update.

I think the big concern for institutional Investors is not 2023 results (which should hopefully be close to £1b FCF, but 2024 and latter. In 2024 the tax bill will increase from approximately $450m to $1.5b+ as we start to pay higher core UK tax as well as EPL.

At the risk of fuelling the debate with facts! EnQuest realised price per barrel (post hedges) in 2022 was $89 and its all in cash cost per barrel was $60 which yielded FCF per barrel of $29 or $500m from 17m barrels of production.

All in cost per barrel in 2023 is going to be closer to $70 per barrel (due to GE payment, higher Opex and increased CAPEX and ABEX) and so a realised oil price of $80 per barrel would result in $170m of FCF, $90pbb realised price - $340m etc. I would expect the all in cash cost per barrel will fall in 2024 to mid $60s.

Ultimately EnQuest needs Oil in mid 80s to make serious dent in debt and provide shareholder returns. I personally think that there is a reasonable probability that Oil will average mid 80s over next 3-5 years once we get past the recession risk and yesterdays US inflation report was very encouraging.

romaron

you would also need to knock off the present value of the future payments on magnus and golden eagle or not value bp’s 37.5% interest in the magnus field in terms of 2p reserves (not sure remaining 2p reserves of magnus). enquest has really pulled a fast one re magnus in that it reports 100% of magnus reserves, revenue and profit and yet bp has retained a 37.5% working interest which we pay out each year.

you should also apply a value to the tax losses that would be acquired with enquest - one of our most valuable asset! and finally a buyer would also have to take on the finance lease obligations which would be reflected in the valuation.

using $10 for 2p reserves would give a gross 2p reserve value of $2b. the tax losses have a value of approx $500m and the deferred consideration and finance leases result in a liability of $1b. so very back of the *** packet, enquest o&g value pre debt should be approx $1.5b or $800m post debt. there are also the decommissioning liabilities which will are difficult to value due to timing and tax offfset.

gas reserves have traditionally been valued below oil reserves and the price volatility of gas makes it much more unpredictable to value.

i

Kign

The purchase of Hurricane gave Prax over a £1billion of tax losses with a value of £420m as disclosed by Hurricane. Accordingly the majority of the purchase price was to buy the tax shield as opposed to 2P reserves.

Given Harbours tax losses will be fully used by end of this year, a similar acquisition by Harbour could take place to replace the tax losses. EnQuest would meet this criteria but sure there are other.

Newkotb

I anticipate that as of today Harbour will be net cash positive and this will be shown in half year results. Debt will be somewhere between $700-$900m with a similar cash value. We have $500m of bonds which cannot be paid down and the company will want to keep a good chunk of RBL active.

However second half of year will be negative FCF due to maintenance, tax payments and deferred consideration re golden eagle and Magnus. I think we will end the year with $200-300m of net debt.

Where do you get your $18 per barrel of 2P reserves for Tailwind from? The deal was pretty clear in that Serica gave TW shares and cash worth £367m and we received $40m+ of 2P reserves. The directors were also clear that this payment included a significant value attributed to the TW tax losses (valued by TW at $250m). We also took on Tailwinds debt of approx $250m.

Newkotb

Sorry meant to add that the point I was trying to make is that EPL has reduced FCF per barrel of 2P by 55-60% depending on debt structure and decom costs. This has been reflected in market Cap and will be reflected in transaction when they arise - although there have been very few to date post EPL.

You are of course correct that acquirers may pay a higher price for 2P reserves if, for example, they have substantial tax losses which can be utilised to offset the core 40% tax.

Ultimately it is now more cost efficient to develop than buy as long as the tax allowance remains that covers 91% of the development costs. After allowance the net cost is $1-2 per barrel to develop a new fields. However industry is not playing which may be as much to do with Labour’s threat to remove investment allowance.

Newkotb

Serica paid £367m for 41m of 2P reserves or approx $10 per barrel. The deal also came with debt and substantial tax losses which were deemed by the directors to be of an equivalent value. Tailwind also had a number of projects in final development phase which added to 2P Reserves by the time acquisition was completed.

The deal valued Serica at £750m which included £450m of net cash. Accordingly Serica’s 2P reserves of 65m, which have very low decom liabilities, were valued at £5 or $6 per barrel.

The general viw of the PI community was theta Serica was overpaying for Tailwinds assets given the $6 per barrel valuation of Serica and PI’s tried to block deal but were outvoted by institutions.

Newkotb

Recent transaction. Eni acquisition of Neptune was at $10.1 pbb but that included reserves in Netherlands etc were taxes are lower. On Serica’s recent merger with Tailwind, the Serica 2P reserves were valued at $6pbb.

There have not been a huge number of North Sea deals post EPL, but the EPL has reduced post tax cash flow per barrel by over 55% and this ultimately flows through to value of 2P reserves.

Neversell

Your question as to whether the current share price is fair value. There are a few ways to look at potential fair value. As an example, the value of 2P reserves in the NS has reduced from approx $20 per barrel to $8-9 per barrel due to EPL (post tax income reduced by 55-60% due to EPL). We have a little over 400m barrels of 2P reserves, so a reserve value of $3.2b to 3.6b. Against this we have debt and finance lease liabilities of approx $1b. So FV of approx $2.2-2.6b which is close to current share price.

Interestingly it costs approx $10-12 of capex to develop 1 barrel of 2P reserves in North Sea, which are worth $8-9 per barrel. However after the current tax reliefs the $10 of Capex actually costs the company $1. So there is still money to be made in North Sea.

If you look at fair value from a profit/FCF perspective things look better with a projected $1b of FCF for 23. However we will not pay the 23 EPL until 24 and we are in the final year of using our tax losses. If we were paying core 40% tax in 2023 and EPL there would be no or negligible FCF for 2023.

I project 2024 FCF will benefit from hedges falling away and even after paying much higher taxes, there should still be $500m of FCF which will fund ongoing dividends and ongoing buybacks. This supports a $2-2.5b market cap.

Comrie

For 2023 I have taken the company’s forecast $1b FCF at $85 oil and 150p therm gas and estimated the value of the tax losses which will be used in 2023 to reduce the tax payments, which is $600m in 2023 (in 2022 we reduced tax bill by $750m due to Premier tax losses).

All the Premier losses will be fully used by end of 2023 and we will be into full tax paying position in 2024.

Accordingly if nothing else changed in 2024 our FCF would fall from $1b to $400m due to core UK tax payments in addition to EPL. It will actually be worse than this as we will pay 2023 and 2024 EPL in the same year as we will be making quarterly payments once losses are fully used.

However we also know gas hedges largely fall away in 2024 and this is the hope that gas prices remain elevated and we earn additional $2b profit of which we keep $500m after tax.

The capital allowance on $800m CapEx has been taken into account by company in projecting the 2023 FCF of $1b and without that expenditure our tax bill would be approx $700m higher.

Kign

As previously discussed the cash flows in 2023 will be more than sufficient to fund dividends, current share buybacks (plus another $100m towards year end) and get debt down to pretty much meaningless levels ($200-300m).

However we will have fully utilised the old premier tax losses in 23. This will reduce our tax bill by approx $600m in 2023 and from 2024 we will be paying both core tax and EPL which will bring FCF down to $400m before expiry of gas hedges. The great hope is that gas prices will stay in the 100-120p per therm range in 2024 and our gas profit will improve by approx $2b per year of which HArbour will get to keep $500m.

This will preserve FCF at around the $1b pa range as long as oil stays in the $75+ range and gas at 120p per therm.

If gas returns to 50p per therm then we are a $400m per year FCF business and current Market Cap looks to be close to fair value. If gas price reset themselves into a permanent range of 100p per therm, then we are probably worth 350p+. I guess Mr market is not going to value higher gas revenues until life (and gas prices) after Ukraine war are clearer.

Tarmak

Thanks again for your really helpful analysis. A couple of observations from me.

1. Not sure on your projected revenue from gas sales. The gas revenue you have used in your overall revenue calculation and that used for the BP profit sharing is materially different. Not sure which one is more correct.

2.. EPL payments made in 22 were $35m and my calc is that a similar payment, if not slightly lower, in OCT23 as opposed to $70m in your model. The EPL on 23 profit payable in OCT24. Interestingly we paid over $77m in Malaysia in 22 almost double the EPL. Even after full EPL we will be paying more taxes to Malaysian gov than UK!

3. I have effective interest rates closer to 10% across our debt as opposed to 5.6%

4. I cannot see the $50m payment of deferred consideration to GE.

Thanks

Kign

Your numbers are slightly off - 2023 EBITDA should be approx $4b at average O&G of $76 ppb equivalent after hedges. We then have to pay Capex, Abex, Interest expense, Leases on various kit and Tax. This is forecast by the company to leave us with $1b of FCF of which $400m used for dividends and buybacks and $600m to reduce debt to approx $200-300m by year end.

We may be net debt free at half year as tax, capex and maintenance costs are 2nd half loaded.

Major tax bills start to be paid in Oct 24 on profits for year ended 31 December 23 and will then increase again as we fully utilise our tax losses against core 40% tax in 2023/4. If O&G are in the $80 and 150p per therm range in 2024 we will likely be paying tax of $3-4b per year which should leave FCF for shareholder distributions of $500-750m.

While geographical diversification is good, please be left in no doubt that the hyper left wing government in Mexico will take most of the spoils and overall taxes in Indonesia are not much lower than the current UK regime. Only fair tax system is US, Canada and Falklands!

Sekforde

Helpful analysis and the only costs I differ on are interest costs which I have $20m higher based on gross debt and $20m of non EPL tax payable.

I asked a follow up question on 2023 EPL payments and confirmed no EPL payments in 2023 related to 2023 profits (due in oct 24) with 2023 payment relating to 2022 EPL.

I roughly get to $100FCF with your price and production assumptions - each 1k per day of production fall reduced FCF by $30m and each $1 change in POO impacted FCF by $16m. Accordingly ENQuest SP very sensitive to small changes in POO or production given fixed costs.

Agree 2024 should be much better, although we will be paying full EPL in 2024.

My take on the update is that production is going well except for Golden Eagle which is delivering less than 1/2 the 10k bopd detailed in the prospectus and we have significantly overpaid based on $375m purchase price. Probably worth closer to $100m in todays market - so that deal has reduced our market cap by £200m Great!

I think there will be some smaller Golden Eagle like acquisition closer to $6-10 per barrel of 2P reserves to use our tax losses.

No great surprise that we are effectively not generating much FCF at mid $70s Brent given our costs are over $70 per barrel. We really need mid 80s to make any real FCF.

Lots of big cash going out in second half of year including Golden Eagle payment of $50m linked to oil prices (why there was not a barrel per day production contingency as well is beyond me), BP Magnus profit share and bonds to refinance in Oct 23. It feels like share holder return not on the cards until mid-2024 and only if Brent averages above $85.

Feeling a little depressed! However Brent looking positive in second half of 2023.

Kign

$291m was paid to Indonesia gov as production entitlement but this is still a form of tax/levy and even worse is based on turnover rather than profit. Production entitlement paid alone is $80 per barrel equivalent.

While we are all rightfully frustrated with EPL tax, I was just looking at the RNS of payments to UK and overseas governments. Harbour paid $400m to Indonesia and Vietnam and £526m to the UK.

Indonesia and Vietnam represent about 6% of group production and Indonesia in particular looks like it is taking about 70% of revenues. We think the UK is bad but this is a global phenomena.

Overall it looks like Harbour kept $200m of overseas revenues ($44 pb) and paid $400m to government - and we have to fund operating costs and cap ex. Makes Jeremy hunt look like Santa.

Romaron

If oil stays a little north of $80 a barrel I would expected around $100m in buybacks and dividends. This will be transformational for share price but we need to get through 2023, which is going to be tough from a cash flow perspective.

Agree MRC. Particularly if the price of buying UK 2P reserves have declined sufficiently (over50%) to reflect the EPL

BP results were interesting in that they outlined that they can provide a 10% share holder return if oil drops to $60 per barrel, While still funding 16-18b of capex per year.