Tethys Oil AB

STO:TETY

Earnings Call Transcript 2020-Q2

[Operator]

Welcome to the Tethys Oil Q2 Earnings Report for 2020. [Operator Instructions] Today, I'm pleased to present Magnus Nordin, the Managing Director; and Petter Hjertstedt, the acting CFO. Please begin.

[Magnus Nordin, Founder, CEO, MD & Director]

Thank you very much. Good morning, ladies and gentlemen, and welcome to Tethys Oil's second quarter 2020. The first quarter of -- the full, I should say, the first full COVID-19 quarter in this rather new world that we have entered into in 2020. It certainly has had its challenges, but we are very pleased to note that we have stayed well and healthy throughout the organization. And we have not seen any major disruptions either within the operating assets that we are partners with all-in our own operations, neither office wise or also in our attempt to expand our portfolio in the Sultanate of Oman.So from that point of view, it has been a as good a quarter as one could hope for. Turning a little bit more to the numbers. We come in with a production of 10,597 barrels of oil per day. That's, of course, down from the first quarter, and we are subject to limitations following Oman's part of the OPEC+ agreement. However, as we have stated before, we'd rather sell less oil at a higher price than more oil at a lower price. So I believe this works to all our favor us that are oil producers. Operations uninterrupted. We have taken a number of measures, and we are very happy to note that they have worked, and we are all well and healthy. And we actually also managed to [ stump up ] a bit of free cash for the quarter with less than $1 million, considerably less, of course, than during the first quarter but given the circumstances, we are very happy to be -- to have more cash now than we had when we entered the quarter. Blocks 3&4 have continued. We drilled 11 wells during the quarter. We have cut back and deferred -- cut back on cost and deferred investments. We are down to now only 1 rig, down from 3 rigs when we started the quarter and 1 workover rig. And work is geared to optimize and maintain production capability, also to maintain a high readiness if and when we are able to increase production. On Block 49, we are continuing to prepare for an exploration well. The rig market has been both sticky and then open and then the -- all the, shall we say, normal associated services that are needed have taken a little bit longer than normal given the circumstances. But we are quite confident that we will drill before the end of the year, and we are in final negotiations with a number of potential rigs. And maybe the highlight for now, a subsequent event, really, but in July, we signed a new block in Oman, Block 58, an exploration block actually adjacent to Block 49, and one where we believe is some very interesting exploration potential. So let's move on to the next slide and take a slightly closer look at our financial highlights. Obviously, everything is down from where we were in the first quarter and for very obvious reasons. I think though, what the summary of the quarter is, it certainly could have been a lot worse. Revenues stood at $21 million. EBITDA still a quite positive $8.7 million. Operating result negative. Free cash positive. Selling price almost halved compared to the first quarter. OpEx has come down, which, of course, helps up the free cash. And production down from 13 to 10.5, still better than the quarter we have. And obviously, we are hoping that we will be allowed to produce a little bit more than what can be calculated from per quarter. And we should remember that -- the Sultanate of Oman is a country that has a quota to meet, we are one of several producers, and we -- whereas, we, of course, planned for the 9,300, we hope we will be allowed to squeeze in a little bit more. So all in all, the quarter better than could have been expected. Looking at the main highlight for shareholders maybe in the second quarter was the distribution to shareholders, which continued. And SEK 5 per share were dividended out and distributed with a yield at still 11%, which is actually quite strong and in line with what we have achieved for the last couple of years since announcement. On top of that, we also canceled 3.3 million treasury shares, the result of buybacks done in the previous years. So we are and remain a cash distributing company. Next slide, please. Production, well, the trend of slow increase in -- that we saw over 2018 and 2019 with some optimization certainly being done in the Q1 2020. Of course, we went into a much slower mode and achieved the 10,597, but as I've said, we do maintain quite a high readiness. And we hope that we will be able to come in above the 9,300, but that is going to be subject to events, and we are not giving any new guidance for where we think the -- where we're going to now put production. But we can conclude that 10,597 barrels was sufficient to give us positive cash flow even for the second quarter. On that note, I would like to leave the floor to Petter to go through the financials for the quarter in more and greater detail. Petter, please.

[Petter Hjertstedt, Acting Chief Financial Officer]

Thank you, Magnus. You can start by looking at the achieved selling price in the quarter, which was $34 per barrel. And we can -- looking at the past 8 quarters, it's clearly a break from how the trend has been over the past 2 years. And with almost halving the achieved price. However, that does not reveal quite the volatility that we had in the quarter, starting on significantly higher levels and ending on lower levels than the average. So it certainly doesn't show the whole picture, but it's -- but it does give some indication what happened during -- from the end of the first quarter to the second quarter. However, as you know, our prices are set 2 months in advance with the -- based on the front-month contract for the Oman Blend. So the fall in prices that we saw in March really only impacted us starting with the selling prices in May and subsequently in June. And since early June, the spot prices for the Oman Blend have been trading above $40, the effect of which we will see a bit further ahead. So looking at the next slide, we can see how the monthly averages impact our official selling price and how the first quarter selling prices were, in fact, generated between February and April and how and how we ended the quarter in June with a selling price of $23.65. Whereas we already know the pricing set for the second quarter for the OSP for July, August and September, which August and September, both are above $40. And currently, in August, the spot price is been traded, well, from the basis of the October official selling price. Moving on, net entitlement is a question that impacts our revenue primarily. And we saw in the quarter for the first time a net entitlement that was above 52%, which is our -- 52% is our annual maximum. So on an annual basis, we cannot -- we are not entitled to more than 52% of the production. However, as we did say in the past few quarters, there will be some fluctuation, particularly when we have a situation as this year, we're in the first quarter, we had an entitlement of 49%, so not utilizing the full cost of allowance. However, that allowance is carried forward and can be utilized if the conditions are right. And with the fall in both price and production in the second quarter, the 3% that weren't utilized in the first quarter could be utilized in the second quarter, resulting in a 55% entitlement of production. However, it's worth noting that on an annual basis or on a year-to-date basis, it can never exceed 52%. Moving on to revenue and other income, it was $21.1 million this quarter. So that's 43% down compared to the first quarter, and that's a consequence of both the lower oil price and the lower production, somewhat offset, of course, by the higher entitlement in the quarter. And I think it's worth highlighting that how our revenue is composed of 2 factors. It is the revenue generated by oil sales in the quarter and also the revaluation of the over/underlift position. And in Q1, we had a negative revaluation effect of $13.7 million. And in the second quarter, we had a positive revaluation effect of $2.4 million, this is despite the overlift position growing in barrels, but being revalued at a lower oil price, hence, giving a positive effect in our revenue. Expenses. Moving on to expenses, you can see that our operating expenses have come down significantly compared to the first quarter, which follows the trend we do have recurring over the years that the first quarter does have slightly higher operating expenses in general. But we also saw a decline as a result of deferrals in cost savings and the lower production in the second quarter so coming down to $10.4 million compared to $13.7 million. So that's significantly lower than the first quarter but also a bit lower than the quarter a year ago. And administrative expenses, the overhead G&A, that's relatively stable for the past few quarters, following the pattern of having slightly higher in the second quarter due to long-term incentive programs and some extra costs surrounding the Annual General Meeting.Moving on to OpEx and netback per barrel. You can see that the netback per barrel was $8.1 in the quarter, so -- also down significantly despite the help from both net entitlement and lower OpEx per barrel, which was $10.8 compared to $11.6 in Q1. But this is a primarily effect of lower achieved oil price, as we mentioned. Moving on to EBITDA. You have $8.7 million in the quarter. Not a number that we feared would be much worse, certainly not one of our best results, but at the time, it did seem that it could be a lot worse. So it's down 60% compared to Q1 and margin of 41% compared to 59% in Q1. Moving on to free cash flow. We are proud to see a slightly positive free cash flow. I would almost say, cash flow neutral, given the effects of working capital of $0.6 million in the quarter. That means we are almost up at $10 million free cash flow for the year, $9.8 million to be specific. We are pleased that we were able to stay at least slightly positive in the quarter despite having to adapt to the lower prices and the lower production. The cost cuts and deferrals did do their part. Moving on to investments. We can see that the oil and gas investments in the quarter totaled $10.4 million, that's down from $15.4 million in the first quarter. And we are expecting the rate of investment on [indiscernible] continue to decrease somewhat, although we will have investments on Block 49, in particular, if we manage to drill by the end of the year, which brings us to the overall cash flow bridge for the year. You can see we started -- sorry, for the quarter, we started the quarter with $78.2 million in cash and remaining slightly positive on free cash flow. We did distribute a total of $18.6 million to shareholders, majority of which was the dividend and redemption and then some buybacks of about $1 million bringing us down to sort of $60 million, which is not far from where we were about a year ago, I believe We were only up $2 million high cash position at the end of Q2 last year. So I think a pretty solid cash flow there. Moving on to the balance sheet, you can see that we have, as already mentioned, $60 million of cash in bank. And we have 0 debt on the balance sheet. So it remains strong, and we're well positioned to; continue to invest. And also where there's some pretty harsh conditions as we've seen, if they were to persist. I think I would say, overall, the -- our performance recorded financially, perhaps not terrible, not great, but certainly a lot better than we feared at some point back in March. With that, I would like to hand over to Magnus.

[Magnus Nordin, Founder, CEO, MD & Director]

Thank you, Petter, and thank you for handing over such a reasonably strong financial position. We come into this quarter, and we come into the operations section with a strong financial position, a strong financial foundation, I should say. And we certainly believe that game is not over for oil producers. And we will continue, as we've always done, to go countercyclical. So when prices drop, we want to maintain our investments and our readiness to grow. So it to be an even better position to produce more when prices rise again. That is certainly a mantra that we have worked well for us in the past, we intend to keep at it. So looking at the operations section. Well, Oman is more and more and more becoming our only focus. And for this quarter, it certainly has, with the addition of Block 58. We now have a very strong presence in Oman, and we are capitalizing on more than 10 years of exploration and production experience in the Sultanate. And we believe that, that gives us an edge in particular from the technical perspective. And we believe that we do know what we are looking for and that we can add substantial value also to exploration, not only within 3&4, but also in other parts of Oman. We now have interest in 5 Blocks, operate 2 of them, we contribute to 49 and 58 in the south of Oman. And actually, we now have a combined license area amounting to well over 50,000 square kilometers. That's 18% of Oman's surface area and, of course, it's a position we are very happy to have. Now needless to say, of course, acreage doesn't guarantee geological success. But we do hope with our knowledge of the geology and our understanding of the various petroleum systems, we believe that increased acreage is also going to translate into increased oil reserves and increased production in the long term. The -- looking at some details of the licenses. 4 licenses, which, of course, we'd acquired in 2007 and is the mainstay, both our financial success, but also our great partnership to be involved in. We have 30%, operated by Greek construction company's energy arm, CCED, and Mitsui of Japan with 20%. And we still have more than almost 20 years to go until the license expires. 49 was signed in 2017 on our 10th anniversary. We've done the work there on the initial exploration period. We are ready to drill and, obviously, we are excited about what we may or may not discover on our first well. 56 was added last year in the fourth quarter 2019. We have a 20% stake. It's operated by Indonesian energy company, Medco, with 2 local partners, Biyaq and Intaj. Oil is present there. It's adjacent to producing areas in Block 6, and we see some strong potential from similarities with Block 3&4. So we expect to have some interesting news coming out of Block 56 over the next couple of years. And 58, of course, a new addition, connected to 49, slightly different play concept. Very much due on the block added in July with some high hopes. So we believe we often know a very interesting exposure to Oman and Oman's oil industry, with, of course, the very robust Block 3&4 and primarily exploration potential added through 49, 58 and 56. 3&4, of course, a producing Block, has proven to be quite robust and weathered the downturn of 2014 and seems now to be weathering the downturn of 2020 also. We are trying to focus on 2 things really: one, of course, maintain the -- maintain production, but also maintain a high readiness to increase production when and if allowed. And the ongoing operations with 1 workover rig and 1 rig are aimed primarily at this, without, for that matter, losing sight of exploration. And our long-term ambition is to continue to mature the substantial inventory of leads and pre real estate prospects that we have, primarily within the areas close to the producing fields, where we now have an almost complete 3D coverage. But also further afield in the blocks. Most important, of course, maintain production and cash flow to underpin both our ability to continue to deliver cash to shareholders. But also to continue our exploration, value-added and growth efforts in the other blocks in Oman. 49, we've done our homework, come up with a prospect, waiting to get the results. We get to rig first. We are close to signing a contract, we believe, should drill later this year. Obviously, always exciting. It's the first Tethys operated exploration well in Oman for more than 10 years. And of course, we hope that you will stay tuned and see what results will come up with. We will be able to give a lot more detail once we get closer to drilling. 56, it's the known oil in the area, known potential. We are in talk with our partners, and we expect to be able to give more detail on upcoming work programs over the next couple of months. But we expect seismic to be one of the main focuses for the upcoming work program. And turning to 58. Our new addition here again stay tuned for more information. What's important is that the block is underexplored, we see 3, 4 potential. We see clear similarities with what we've learned from 14 and 9. And we have proven oil play. There is oil shelves in previously drilled wells. And some very interesting leads have been identified already from existing seismic. We have high hopes for the block, although it's still early days. We are starting to collect all the relevant data, would spend the next couple of months reviewing this. And we'll then come up with a, I hope, well-timed work program for the next couple of years where we have committed to drill 2 wells. And obviously, we hope to be doing in some very interesting locations. 58 is, so I would say, an area where we probably wouldn't have noticed had we not learned so much that we actually have about the Omani geology over these 10 years. And we do hope to be in a position to use a little bit of the cash flow from 3&4 into developing or, I should say, getting to know more about 58 and eventually, of course, help to have a discovery here. So turning to outlook. We expect some interesting exploration exposure for the rest of the year and also well into 2021. While we expect 3&4 to underpin our production from the robust producing assets that we have. And also from the astute management by the operator of adjusting to the lower oil price environment, just as happened in 2014, 2015, but in no way losing sight on our long term ambitions, both for production capability and exploration. 49, of course, this is where most of Tethys' operations will be aimed for the fall with the drilling of the Thameen well or the Thameen prospects. 56, getting to know our partners and moving that block along. And 58 will really gain pace after we have the results from 49, and we know more if our ideas for 58 are going to prove to hold up. And that said, with the increased focus on exploration, maintaining production and readiness within 3&4, underpinned by strong cash position and continued positive cash flow. We can last in this environment for a long time, and we can continue to distribute cash while maintaining our growth focus. On that note, I would like to open the floor to questions. Thank you.

[Operator]

[Operator Instructions] Our first question comes from the line of Teodor Sveen-Nilsen of Sparebank 1 Markets.

[Teodor Sveen-Nilsen]

A couple of questions, if I may. But first of all, on production. You mentioned that the second quarter production was slightly above the quota as also indicated what's the quotas will be in the third quarter and the fourth quarter, but then how should we model this? Or should we expect you to continue to produce according to quotas for third quarter and the fourth quarter this year? And my second question is regarding new production expenses. You've obviously done a good job here to reduce the production expenses quarter-on-quarter. Is that directly related to the reduced production such that we should expect the product expenses to increase if or when you increase production? Or is that a permanent drop in production expenses?

[Magnus Nordin, Founder, CEO, MD & Director]

Teodor. Good questions as always. I'll find you with the production question, and then maybe I can ask Petter to discuss the OpEx. The -- as you can see from the report, we have elected not to give any guidance on production for the rest of the year, but refer to our regular monthly updates. Just to run a comparison with what happened a couple of years ago when there also were production limitations introduced. In the production limitations, are the various sovereign states that have entered into the agreement, but they are to not produce more than a fixed number. And of course, within the producing states, there are a number of producers. We have been given our quotas. But we also know, of course, that there will be a calibration between producers from who will actually produce what and who will be able to produce what at any particular point in time. We saw last time when this happened that there were monthly fluctuations. And we expect monthly fluctuations to continue here also. Obviously, we would be very pleased and hope that we will be able to or be allowed to produce a little bit more than what our mathematical quota would be. But there are absolutely no assurance that, that will happen. But we do maintain that readiness. But from a guidance perspective, the best we can do is refer you to our regular monthly updates, which, of course, will be the exact number that we actually produced for the previous months. And that's the best proxy we can give for the future at this time. Petter, do you want to elaborate a little bit on the OpEx?

[Petter Hjertstedt, Acting Chief Financial Officer]

Yes. Well, the operating expenditures are, of course, to an extent, a function of the production levels. So given the -- as Magnus said earlier, there is a certain amount of lack of visibility from our side, exactly how production may develop in relation to the quotas. But I think current levels in absolute terms is certainly what we're targeting for the rest of the year, but then that depends on what -- where we go with production. So it is subject to that. So I think that's as far as we can go. But there is an element, of course, if production goes up, there are expenses that come with that. So at -- I would say, we expect current levels in absolute terms. That's our ambition at least going forward. But if production was to increase, we would expect to see an increase in OpEx to some extent as well.

[Magnus Nordin, Founder, CEO, MD & Director]

Good enough, Teodor?

[Teodor Sveen-Nilsen]

Yes, that's fine.

[Operator]

Our next question comes from the line of [ Sigrid Fackler ] of [ Fackler Investments ]

[Unknown Analyst]

Fackler here. I have a question. The last time you gave us a perspective that you are not interested to invest more than Block 56 and 49 and 3&4. And I was a little bit surprised that you got in another Block 58. And I want to ask you, is that block for you so attractive that you say we have to do it, even we didn't plan it. Because with the buyback program you just completed and you had a new one, you can create shareholder value with the old blocks, too. So I want to ask you, speculate between the leverage of the old blocks you have through the new one and you balance it, the risk? Or how do you approach if you go to a new block because someday, you will have too much blocks to develop, and you're just a small company and you have to care about everything. Can you give me some color on that?

[Magnus Nordin, Founder, CEO, MD & Director]

Certainly, thank you, [ Sigrid ]. First to say, I don't think we've ever said that we were not going to expand or we were not looking at other investment opportunities. So the -- actually adding another block should not necessarily be a surprise. Then turning to your question how we see to balance the risk. Well, the exploration expenditure, a lot of each of these block. So it's reasonably modest compared to both our cash on hand and also the cash generation ability of our main 3&4 assets. So we certainly believe that that also by adding block 58, we will be in a position to add -- to spend a small amount of money that could potentially add a lot of values. And the -- it's always difficult to rank exploration blocks. But look upon 58, there's a nice continuation block 49, which in effect it is. And maybe look upon it just as more of the same there. And where we certainly believe that we have an edge from a technical perspective of adding value in these areas that we know a lot, we believe, about the overall geology in the area. And that we could put that to very good use for creating additional value. I mean, otherwise, we wouldn't have done it. So I'd say is no change from the balance -- from the balanced approach that we have had earlier. And we don't really expect that, that the exploration cost going to be such that they would, in any way, undermine our ability to carry out our other stated aims for the company. However, were we to have a major discovery and with these blocks, all of them to go into major developments. I still think that would be a rather nice problem to have, that I'm sure we would be able to solve from a financial perspective if that were to occur. So I hope you would not see this as a frivolous expansion of exploration adventures, of course, that's certainly not what they are.

[Operator]

Our next question comes from the line of Karl Fredrik Schjøtt-Pedersen of ABG Sundal Collier.

[Karl Fredrik Schjøtt-Pedersen]

I wanted to dig a bit into the drilling prospect on Block 49. So I was wondering, could you enlighten us on the pre-drill estimates? And also how you've viewed a chance of success on that prospect? And also, is this something that we should expect to see? When will you spud? And when should we expect results from this well?

[Magnus Nordin, Founder, CEO, MD & Director]

Okay. Well, thank you, Karl Schjøtt. Good questions, of course. Had we been in a position to answer them, I think we would have done so in the report already. I can't add too terribly much color on this. But what we can say is that we are in final negotiations with -- to obtain rig. Obviously, we can't really give spud date until we actually have a rig and we would expect to be able to announce a rig -- we will announce a rig contract as soon as we have it. I think that will be the time when we would be in a position to give a little bit more on -- info on the 49 and the main prospect in general. So I'm actually going to be a bit boring here and duck the question until we have a rig contracted, where upon we will be able to give you both a much more detailed schedule, an idea of when we spud, an idea of how long time the well is going to take to drill, when we also have a better idea of what the cost is actually going to be. But also remembering what -- Fackler's question here, obviously, we certainly don't believe that this is going to be an expenditure that in any way will impact the overall operations. And just to remind you that an exploration well in Blocks 3&4 typically costs anywhere from $3 million to $5 million. And I don't think we would expect this one to be out of line with that kind of estimate. But we would like to get back to you with details once the rig has been secured, and we will be in a much better position to give details both on cost and timing.

[Karl Fredrik Schjøtt-Pedersen]

Okay. And in terms of the resources that you're looking for, is there any kind of catch-up where you'd define it as commercial or could you quantify a bit, what are you actually looking for in there?

[Magnus Nordin, Founder, CEO, MD & Director]

Certainly. I think, again, we would like to get back to you with that, when we actually have a rig and a spud date, and in connection with actually going live with well, give more of an idea as to what we hope to find, what kind of license we're looking at, what the players are we are looking at and also what's the prospectivity and also the prospective resource base would be. But I would like to -- we'll get back on that when we are close to announcing a spud date.

[Operator]

Our next question comes from the line of Jørgen Torstensen of Fearnley Securities.

[Jørgen Torstensen, Analyst]

A couple for me, if that's okay. First one is, I guess, is an extension of Karl Schjøtt's questions. So I'm wondering how confident are you that you'll actually drill the exploration well and look [indiscernible] by year-end? And the second one is, if you could just remind me, please, what kind of investment you're looking at, all in, to develop Block 49, assuming it's successful?

[Magnus Nordin, Founder, CEO, MD & Director]

Okay. Well, first, how confident are we? Certainly -- no guarantees, no promises until we actually have secured rig and the rig is on its way to the location, no promises. But what we can see is that there is a strong willingness from all parties involved, including rig operators, to have the rigs operating. And based on that and how -- where we can judge we are in the discussions. I would say we are quite confident that we will drill before the end of the year. But I mean, things may change and things could take longer than we expect. So we are confident, but no promises. As for speculating on development, it's tough to do without getting into what are we actually looking for? And the there is still also a -- I mean, we may find a number of different things from what we said so far. I mean, we are looking at the 3 different reservoir targets. So I think we'll defer that question also until we know if we have a discovery and when we understand a little bit of what will be the best way of bringing that discovery to -- or to value to shareholders. So again, start to be a bit boring here, but we'll give further question. And hopefully, in the not-too-distant future, we'll be imminently able to talk about a nice development on Block 49. But so far, no promises on drilling it before the end of the year, although we are confident and hopefully, we will do so. And obviously, hopefully, we'll also have a discovery. So stay tuned and bear with us.

[Operator]

[Operator Instructions] And there are no further questions at this time. So please go ahead, speakers.

[Magnus Nordin, Founder, CEO, MD & Director]

In that case, I would like to thank everyone for taking the time this August morning. And if not before, although I do hope we will have reason to speak to you before, we will congregate again for a discussion of the third quarter in November. Thank you very much, and stay tuned.

[Petter Hjertstedt, Acting Chief Financial Officer]

Thank you, everyone.

[Operator]

This now concludes our conference call. Thank you all for attending. Participants, you may all disconnect your lines.