Analysts weigh in on Pikka after merger
Most people in Alaska would have paid little attention to last week’s announcement that two Australia-listed, publicly traded oil and gas corporations were going to become one, the combined company moving into the Top 20 among the world’s oil and gas producers.
That’s if not for the fact that the smaller one, Oil Search, which accepted a buyout offer from the larger one, Santos, holds a 51 percent interest in the undeveloped Pikka unit on Alaska’s North Slope.
Pikka and ConocoPhillips’ Willow development underpin hopes that Alaska’s oil production could enjoy a strong boost in crude flowing through the Trans-Alaska Pipeline System later this decade.
Neither Santos nor Oil Search mentioned the Alaska prospect in their Aug. 2 announcements of the deal, though that did not stop speculation by industry analysts thousands of miles away from the North Slope about what the combined company would do with Pikka. Their comments started the day the deal was announced.
Tom Allen, an analyst with UBS, told the Australian Financial Review that he expects a merged Santos-Oil Search will consider divesting itself of Pikka. Allen is head of Australian Energy and Utilities Equity Research at UBS, a Swiss-based multinational investment bank.
Allen said he expects the combined company will focus its integration efforts in Asia, where Oil Search and Santos both hold interests in Papua New Guinea natural gas assets, including the ExxonMobil-led liquefied natural gas project in the island nation.
The LNG project, developed at a cost of $19 billion, has been producing since 2014, often exceeding its nameplate capacity and generating healthy profits for its owners, which are looking at an expansion.
Oil Search and Santos hold a combined 42.5 percent stake in Papua New Guinea LNG. Oil Search also owns a share of another proposed LNG project, led by French major TotalEnergies, that targets first production in Papua New Guinea in the second half of the decade.
Santos holds an extensive gas portfolio in Australia, including stakes in the Gladstone LNG export facility in Queensland and the Darwin LNG plant in the Northern Territory.
Pikka, near the Colville River and west of the Kuparuk River and Prudhoe Bay fields, is certainly a geographic outlier in the two companies’ Asia-focused assets portfolio.
Another Australia-based analyst, Gordon Ramsay, said he sees the deal as “all about PNG.” Ramsay is a director and lead energy research analyst with RBC Capital Markets, part of the Royal Bank of Canada.
Though he sees the gas as the main draw for the deal, Ramsay views diversification into Alaska as “a good counter-balance” to Oil Search’s overreliance on Papua New Guinea gas. He suggested Santos may retain Pikka.
“We view Alaska as a ground-floor opportunity for Santos to become involved in a potentially very material asset with a substantial and growing reserve base,” Ramsay told the Australian Financial Review’s energy reporter.
In public presentations, Oil Search has projected that Pikka’s first-phase development, estimated at $3 billion, would have capacity to produce up to 80,000 barrels per day. The company has said production could reach 120,000 barrels per day with additional investment in second and third phases.
Oil Search and its 49 percent partner, Repsol, both have been looking to sell off a portion of their stakes in Pikka to reduce risk and help share the burden of development costs. Oil Search last year put some of its field work on hold as the pandemic was approaching its worst and oil prices were near their lowest.
Several companies have expressed interest in buying into Pikka, then-CEO Keiran Wulff said in April at a conference in Australia. He said Oil Search had succeeded in cutting costs to the point that Pikka could return 10 percent on capital with oil at $40 per barrel.
The company’s goal — not a deadline — has been a final investment decision on the first-phase development by the end of this year, with first oil production in 2025. Oil Search bought into Alaska in 2018 when it negotiated a $400 million purchase of North Slope leases from Armstrong Energy and GMT Exploration.
It has kept busy since then with exploratory drilling, gravel road building and permitting.
“We will work with our partner Repsol on achieving an appropriate funding structure for our Alaska project, prior to committing to FID,” Oil Search said in a July 19 briefing on the departure of the company’s CEO.
“That includes the work we are currently doing on a possible joint selldown of equity in the (Pikka) project, consideration of the sale of midstream infrastructure within the project and reviewing relevant markets for an appropriate level of debt financing to support the project,” the company’s acting CEO Peter Fredricson said on the call. “It’s very much a matter of how and when we fund it to a point to go forward.”
CEO Wulff resigned in July for health reasons, while on the same day the board strongly criticized his behavior and management style.
In the context of financing future developments, combining Oil Search and Santos makes sense, Wood Mackenzie research director Andrew Harwood wrote in a commentary on the global consulting company’s website.
“At current commodity prices, the combined entity will generate significant free cash flow through 2021 and 2022,” he wrote. “Combining with Oil Search would immediately increase Santos’ production by over one-third, to around 290,000 barrels of oil equivalent per day.”
The merged company will be able to proceed with its efforts to take in new partners in Alaska and offshore Australia “from a position of strength,” he added.
Less encouraging than Hardwood or Ramsay in his description of the Santos-Oil Search deal was Saul Kavonic, a Zurich-based analyst at Credit Suisse. Noting that Oil Search had rejected the first buyout offer from Santos, later saying yes to a richer deal, Kavonic told the London-based Financial Times that Oil Search was in a weak bargaining position to say no a second time.
“Oil Search’s board has raised the white flag, having been weakened in the wake of management churn and governance concerns, and pressured into a merger by increasingly frustrated investors,” he was quoted the day the deal was announced.
“The acceptance of the offer can essentially be viewed as a capitulation by Oil Search that their Alaska asset is not worth what they hoped it would be.”
The merger agreement is to conditions including Oil Search shareholder approval and Papua New Guinea government approval.
Larry Persily is a former Alaska journalist, state and federal official who has long tracked oil and gas markets and projects worldwide. He can be reached at [email protected].