We downgrade NOGLN 22s and 25s to Sell on the absence of positive triggers that could improve the credit outlook in the next 3-6 months. The H1 19 results and conference call did not answer the question about Nostrum’s ability to ramp up production from c30,000boepd, while Brent trading below US$60/bbl limits the company’s ability to finance an expansionary drilling programme and the second leg of a recently announced acquisition of Stepnoy Leopard licenses. The company did deliver decent results in H1 19, was free cash flow positive and has enough cash from operations and in the bank to pay interest on the bonds. However, the long-term sustainability of the current debt burden in the absence of positive production and/or oil price trends is a concern.
Still waiting for new production guidance. No producing wells have been drilled in 2019 and management will start evaluating drilling options in the currently producing North East part of the Chinarevskoye field after Schlumberger and PM Lucas submit their technical reports at the end of September. In our opinion, this schedule does not give time to plan, drill and complete any wells in the North East in 2019. Of the two appraisal wells 41 and 42 that were drilled in the North, one was tested, and didn’t deliver commercial flows, while testing of the other is ongoing.
Limited room for capex with Brent at US$60/bbl. According to our estimates, with the natural production decline rate of c12-15% pa, Nostrum could have to replace 3,500-4,500boepd in 2020 simply to maintain production at current levels. This implies drilling 2-3 producing wells at a total cost of cUS$25-45mn. The free cash flow breakeven oil price in this case would be cUS$50/bbl, according to our estimates. If Brent stays at the current US$60/bbl level in 2020, we estimate that the total operating cash available for investment (after interest and capex to maintain production) would be roughly US$60mn. With up to US$50mn required to complete the acquisition of the Stepnoy Leopard licenses, the company’s ability to fund drilling capex could be seriously constrained, US$100mn end of year target cash reserves could be unsealed and bondholder concerns increase.
Decent H1 19 results and sound liquidity. Nostrum reported US$171mn in revenues, a 9% yoy decrease due to a combination of lower volumes and oil prices (-7% yoy), but profitability improved. EBITDA came to US$110mn, only a small single-digit yoy decrease thanks to a 13% yoy lower per barrel cost. Operating cash flows remained robust and fully covered interest and capex, resulting in a US$6mn free cash flow. Total debt was roughly unchanged at US$1.2bn and net leverage increased slightly to 4.6x. The company increased its cash balance to US$120mn and reiterated YE 19 guidance of maintaining at least US$100mn in cash. The next bond maturity in July 2022 gives the company a lot of time to come up with the optimal refinancing solution, interest payments are not at risk with EBITDA interest coverage of 2.8x, and cash on hand covers annual interest with a ratio of 1.4x. The key credit concern is that the US$1.2bn debt is unsustainable unless the company increases production substantially and/or oil prices make a stunning recovery