Oil Search sitting pretty to buy Santos assets in PNG

Oil Search is eyeing some of Santos' assets in Papua New Guinea for potential acquisition, including its stake in the $US19 billion ($26 billion) PNG LNG project, as it looks to take advantage of its balance sheet and the low oil price environment to add high-quality assets in its home market.

Managing director Peter Botten said Santos, which has all its assets under review, had "a number of potentially interesting assets" for Oil Search.

But he said the company would be "very disciplined" over the price it would pay, especially given uncertainty about the future direction of oil prices, which have hit six-year lows.Any sale by Santos of its 13.5 per cent stake in PNG LNG could in any case trigger pre-emptive rights by the existing partners, giving Oil Search the opportunity to increase its stake in the venture.

PNG LNG "is a quality high returning asset, and it can be readily valued", Mr Botten said after Oil Search posted a 49 per cent jump in first-half profit thanks to a full six months of production from that venture, which started up last year."The issue comes back again to potential differential between a seller's expectations on oil prices and a buyer's expectations on oil prices."

Credit Suisse values Santos' stake in PNG LNG at about $4 billion, which Mr Botten signalled would be too big for Oil Search to consider by itself, suggesting a partial acquisition through a pre-emptive right might be more likely."We don't necessarily have to be proactive," he told The Australian Financial Review.

Oil Search tripled its interim dividend to US6¢ after posting record first-half profit of $US227.5 million, broadly in line with consensus. Sales surged 69 per cent to $US863.8 million as the production contribution from PNG LNG more than offset sharply lower oil and LNG prices. Net operating cash flow more than doubled.

'Lower for longer'

Oil Search had $US1.59 billion of cash and available debt at June 30.The stock climbed 0.86 per cent to $5.84, compared with a 0.1 per cent rise in the energy index.Mr Botten said Oil Search was planning for a "lower for longer" scenario for oil prices, suggesting prices might plateau in the $US50-60 a barrel range, well below the $US100 or so that prevailed until mid-2014.

But at that price, both the expansion of PNG LNG and the proposed Papua LNG project would still be "extremely viable", he said. The ventures would both be well placed to sell into an LNG market facing a potential shortfall of supplies early next decade, especially as less economic rival projects were shelved, he said.

Mr Botten suggested a timing of end-2017 for a final investment decision to add a third LNG train at PNG LNG, while a go-ahead for Papua LNG, where the gas resource is still being appraised, looked more likely for 2018.

Citigroup analyst Dale Koenders said the timing for Oil Search's LNG expansion seemed to be "slipping", which he said was to be expected given current oil prices.The slump in the oil price has still put pressure on Oil Search to cut costs, and the company is targeting operating and capital unit cost reductions of up to 20 per cent from 2016.

He said Oil Search was aiming to cut $US2.50 to $US3.50 a barrel from the costs of its operated oil and gas production, which was just under $US16 a barrel of oil equivalent in the first half. Cost reductions of between 10 to 25 per cent are coming through after negotiations with major suppliers, with more to come in the second half.

At the same time, investment is continuing in exploration, with drilling targeting 6 trillion to 7 trillion cubic feet of gas planned over the next 18 months to feed growth. Capex for the full 2015 year have actually been increased, to between $US610 million and $US690 million.

The PNG LNG venture is running above rated capacity, contributing 10.94 million boe of production in the June half, up from 1.87 million boe a year earlier, when it was only just starting up.

That meant Oil Search's LNG and gas revenues surged more than five-fold to $US598.6 million despite the average realised price falling 28 per cent to $US10.19 per million British thermal units.The oil price almost halved, to $US56.64 a barrel, driving down revenues from oil and condensate sales by 38 per cent.

"They're going very well in a hard climate," said Anna Kassianos at Platypus Asset Management. "They probably have the opportunity to capitalise on this environment."