Tullow Oil (TLWLN) has sold its Lake Albert Development Project in Uganda, together with the proposed East African Crude Oil Pipeline, to Total for a total cash consideration of US575mn plus first oil contingent payments.
This is the first transaction of the previously announced US$1bn asset disposal programme designed to optimise operations and reduce net debt. Considering existing hedging contracts, substantial headroom under the Reserves Based Lending (RBL) facility and expected proceeds from the asset disposal, Tullow’s operating and financial performance looks sustainable in 2020-21.
Investors reacted positively to the news despite unprecedented pressure on crude oil prices. According to Bloomberg, the mid price of US$650mn 6.25% notes due 2022 surged to 60 from 36 yesterday and the mid price of US$800mn 7% notes due 2025 increased to 55 from 36.
Asset disposal to improve liquidity and reduce net debt. In 2020, the negative effect of deteriorating oil prices will be contained by hedging, which is likely to allow Tullow to break even on a free cash flow basis. Liquidity will be further supported by US$700mn that is available under the recently redetermined Reserve Based Lending facility (RBL), the expected US$575mn cash proceeds from the Uganda asset disposal, and its US$288mn cash balance at the end of 2019.
Net leverage is likely to increase despite lower debt. In FY 19, the company reported US$3.1bn in debt, US$0.3bn in cash and net leverage measured as net debt to EBITDAX of 2x. Following the transaction, Tullow’s pro-forma net debt could reduce to US$2.2bn (from US$2.7bn in FY19). This, however, is unlikely to improve the leverage ratio as lower oil prices put pressure on EBITDAX. According to Bloomberg, Tullow’s 2020 EBITDAX forecast is in the range of US$0.8-US$1.2bn, suggesting that if the asset disposal goes through and the company does not burn cash (a reasonable assumption given hedging), net leverage could increase to 2.9x in 2020.
Hedging to help Tullow preserve liquidity in 2020. According to management, the free-cash flow (FCF) breakeven oil price is US$45/bbl. Assuming that production continues in line with management guidance, no sale disruptions occur and hedging contracts are settled smoothly, Tullow’s average realised oil price after hedging is likely to achieve FCF-breakeven even if Brent stays in the low 20s. In 2020, 60% of sales are hedged at cUS$57/bbl, and in 2021 40% of sales are hedged at cUS$53/bbl.
Production guidance reiterated at 70,000-80,000bopd. Operations in Ghana (c70% of production) have not been disrupted by COVID-19. The company implemented measures to minimise the risk of spread of the disease through frequent testing and compulsory self-isolation of the personnel before sending them to the offshore facilities. The government of Ghana allows charter flights to bring workers in the country.