Morningstar | Strong 1Q from No-Moat Beach Has Net Debt on the Run. No Change to FVE.
We make no change to our AUD 1.80 per share fair value estimate. No-moat Beach reported strong first-quarter fiscal 2019 production, up 7% to 7.8 million barrels of oil equivalent, or mmboe, towards the upper end of our expectations. The company previously provided relatively tight fiscal 2019 production guidance of 25-27 mmboe and says actuals are trending towards the upper end. We consequently increase to 27 mmboe, and lift our fiscal 2019 EPS forecast by 5.5% to AUD 0.135. First-quarter revenue rose 9% to AUD 514 million reflecting improved facilities up-time and strong seasonal demand, in conjunction with higher realised prices. However, we don’t see longer-term implications, and our assumptions including a USD 60 per barrel (2022 dollars) Brent crude price are unchanged.Net debt stood at just AUD 486 million at quarter’s end, with net debt/net debt plus equity already below 20%, well ahead of the original post-Lattice gearing target for less than 25% by end fiscal 2019. Subsequent to quarter’s end, Beach reached agreement to sell-down 40% of its wholly owned Otway project for AUD 344 million. This and strong free cash flows have emboldened the company to predict a net debt free status within as short as 12 months’ time. We project a net debt free status within just nine months, which would be a remarkable achievement given the AUD 1.6 billion Lattice acquisition was only formally signed-off on in January of this year.
Our fair value estimate equates to a little changed 2023 EV/EBITDA exit of 4.8, suitably lower than larger peer Santos’ 6.9, for example, in keeping with Beach’s lesser field life. Beach has just 10 years proven and probable, or 2P, reserve life based on our midcycle 30 mmboe production target, and considerable work will be required to convert more resource to reserve. This is part of the grand strategy, with Beach noting that its aspirational production target of 30-36 mmboe is materially dependent upon drilling outcomes.
Beach points to multiple avenues to replace or grow 2P reserves, including in the Cooper, Otway, Perth and frontier Carnarvon, Bonaparte, and Canterbury basins. The fiscal 2019 capital expenditure guidance for AUD 440-520 million including exploration is unchanged, and exploration spend of around AUD 80 million per year is targeted for the next five years. We continue to sit at a low end 30 mmboe production target by fiscal 2023, still preferring greater clarity on contributing projects before crediting Beach’s full 36 mmboe.
Our five-year cumulative free cash flow forecast is unchanged at AUD 2.9 billion including Otway sale proceeds. Cash flow projections are underpinned by strong long-term gas contracts and repricing. Most recently, Origin Energy agreed an increase to the contract price for the sale of gas from the 5% interest in the Otway project previously held by Toyota Tsusho. And Beach achieved an average gas price of AUD 6.70 per gigajoule in the first quarter of fiscal 2019, up 5% from AUD 6.40 a year earlier. This is ahead of our unchanged midcycle AUD 6.30 per gigajoule forecast, which anticipates weakening in energy prices after 2020, and gas falling in sympathy with oil. Gas comprises just over half of Beach hydrocarbon output.
Beach shares have weakened from October AUD 2.20 highs and at around AUD 1.60 are now undervalued. Our DPS forecast of AUD 2.0 cents for fiscal 2019 equates to a not overly material 1.25% fully franked yield, on a payout of just 15%. But the fact that Beach has paid out at least something for more than 15 years straight is itself comfortingly noteworthy, and demonstrative of a business with some legs.
Beach Energy is engaged in oil and gas exploration, development and production and investment in the resources industry. Co.'s operating segments include Cooper Basin, which includes oil and gas sales from Australian production; Other Australia, which includes Co.'s interest in all on-shore and off-shore production and exploration tenements within Australia other than the Cooper Basin; and International interests, which includes Co.'s interests in all areas outside Australia and oil and gas sales from Egyptian production. As of June 30 2016, Co. had total proved and probable reserve estimate of 69.8 million barrels of oil equivalent.
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