Tethys Oil AB

STO:TETY

Earnings Call Transcript 2020-Q3

[Operator]

Welcome to the Tethys Oil Q3 Earnings Report 2020. [Operator Instructions] Today, I'm pleased to present Magnus Nordin, Managing Director; and Petter Hjertstedt, acting CFO. Please begin your meeting.

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

Good morning, everyone, and welcome to Tethys Oil. We're going to give you a brief rundown of our third quarter for 2020, and we'll start with our highlights. So an important one, production at 10,651 barrels of oil per day. It's slightly higher than in the second quarter, and it's a number that we're rather satisfied with, offering a good base for everything else we wanted to do. We are very happy to report that operations have been uninterrupted despite the COVID-19 situation and all measures to contain the spread of the virus and may assure that operations work smoothly, has worked out very well. And that's something that, of course, we are very grateful to be able to report given these rather -- still rather strange situations. We had a negative free cash flow for the second -- for the third quarter, primarily relating to timing and lifting effects. And more importantly, we expect the free cash flow before acquisitions, of course, to be positive for the Q4 and full year 2020. Also, an important consideration, given the level of oil price environment that we are currently moving around. Turning to -- away from our producing Blocks 3&4 and looking at our exploration and growth opportunities in Block 49. We are about to go live on an exploration world. That does mean one well is planned to commence in mid-December and is 6 weeks away. Block 58 is a new exploration block, actually adjacent to 49 in the southern rather unexplored part of Oman, where we have some very interesting indications for future growth. And Block 56, it's a block that we added our portfolio in -- about a year ago. Just last week, actually, as prior to the fourth quarter, we announced that we are trying to increase our interest from 20 points to 65% and also take over operatorship. The deal has been signed with Medco of Indonesia, but it's still subject to government -- customary, I should say, government approvals. And that really sums up what we have been focusing on for the third quarter. And on that note, I'd like to turn the slides to give you a more financial detail for our earnings for the quarter, and no one is better to do that than our acting CFO, Petter. Petter, please.

[Petter Hjertstedt, Chief Financial Officer]

Thank you, Magnus. As you can see from the financial highlights, our production, as Magnus said, was basically in line with the Q2 production with a year-to-date production level of 11,466 barrels per day. And looking at -- back at Q3 revenue, it was 20.4%, just a bit below the Q2 level, reflecting the lower net entitlement. And net entitlement, we expect for the full year to be around the maximum of 52%. We'd also like to highlight that the EBITDA of $9.5 million, a clear improvement on the second quarter. And as mentioned, the free cash flow was negative in the third quarter, but that is mainly due to the timing differences resulting from the overlift, and we will get back to that in more detail. Moving to the next slide on production. As you can see that the past 2 quarters we have had, slightly lower production than in the preceding quarters. That is solely due to the production limitations resulting from the OPEC+ agreement, which box in for are indirectly subject to since May. However, as you may have noted from our monthly production reports, we have been permitted to produce somewhat higher than the early communicated quarters, and we are hopeful that this may continue. Moving to the next slide. Achieved selling price per barrel. You can see that the achieved selling price in the third quarter of $42.80 per barrel is 25% over the Q2 number. And that is in part due to the turnaround in the market, but also it was aided by the positive impact, and the fact that we did not lift any oil in July, where the OSP was at $33 per barrel, which was the lowest in the third quarter. And the OSP, as we'll get back to in detail, does lag by about 2 months from the spot price. So the sharp drop in oil prices starting March started to feed through in May. We have seen the lowest point so far for the year in June at $23 per barrel followed by July at 33. And since then, it's recovered up to above $40. Moving to the next slide. You can see the progression of the official selling price from May onwards. They clearly see how the average price feeds through to the monthly official selling price with a 2-month lag. So already now, we can say that we are -- we know the fuel selling price for each of the months in the fourth quarter. And the average OSP on a straight average is $42 per barrel. However, that will -- the achieved price will vary depending upon production, the levels of production in different quarters. And to that, there are quality and marketing adjustments to the price. Moving to net entitlement. During the year, we have had varying levels of net entitlement with 49% in Q1 and 55% in Q2, coming down to 52% in the most recent quarter. 52% is the annual maximum net entitlement and cannot exceed that level on a full year basis. However, unutilized entitlement, particularly the cost oil, can be carried forward later in the year as happened between Q1 to Q2. But on a year-to-date basis, our entitlement can never exceed 52%. And for the full year, we do expect net entitlement to be at or just below 52%. Moving over on to over and underlift. This is worth highlighting in this quarter in particular, as the effects have been quite noticeable in our free cash flow. Liftings, that is to say, oil sales, are nominated 2 to 3 months before or ahead of time. And this can result in an overall underlift vis-à-vis the actual production in the quarter -- sorry, in the month. And that the nominations made reflect not only our expected production, but also an ambition to neutralize any over and underlift position, as we are contractually obliged to hold the neutral over and underlift position over time. So that means we periodically will have corrections. As a result of the imposed production limitations in the second quarter and with sales volumes already nominated for those months, that were subject to limitations, a overlift situation arose in Q2. And we already had an overlift in Q1. So by the end of Q2, there was a significant overlift position that needed to be corrected. And as a result, there was no lifting made in July, and the liftings nominated reflected the rebalancing of that over and underlift position. Moving on to revenue and other income. In Q3, revenue and other income was $20.4 million, which is down 3% compared to Q2, with the lower net entitlement in the quarter being offset by the 25% higher oil price. And we expect this entitlement, as we said, to be around maximum of 52% for the full year and also for the fourth quarter. Moving on to expenses, which we believe is one of the strong points of this report. In Q3, operating expenses amounted to $9.3 million, which is down 11% compared to Q2 and down 47% lower than Q1. And this is mainly the result of the shut-in of higher cost wells and fewer and slightly less expensive workovers and well interventions being performed on the field. I think the significant lowering of operating cost is a testament to the quality of the asset and also it's the hard work being performed by the operator under quite difficult conditions given the COVID limitations. Admin costs are down to $1.6 million, which is more the normal run rate, reflecting the -- that Q2 had the -- carry the cost of the long-term incentive program, which is recorded annually. Moving on to OpEx per barrel and netback. Netback up 58% in Q3 compared to Q2 despite the lower net entitlement being boosted by the higher achieved oil price and the lower OpEx per barrel. And I think it's worth noting that the OpEx per barrel of $9.5 per barrel is the lowest OpEx per barrel recorded since 2017. And also, another sign of quality and the Block 3&4 asset that despite a lower production the per unit cost was lowered as well, absorbing the fixed costs. I think this is a clear highlight of the report. Moving on to EBITDA on the next slide. We recorded an EBITDA of USD 9.5 million, up 9% compared to the previous quarter as the lower revenues was offset by the lower costs. Moving on to free cash flow. So free cash flow in the quarter was a negative $11.7 million, and that is mainly or almost wholly due to a negative working capital effect of minus $12.3 million. And the negative working capital effects relates particularly to the timing of the liftings and the correction of the overlift position that we had at the end of Q2. And we expect that to normalize in the fourth quarter as we ended in the third quarter with an underlift position. And more specifically, we could say we lifted oil only 2 out of 3 months and also received the cash from the last lifting of the second quarter, which was the June lifting. And as you said, the June OSP was the lowest of the year so far at $93 per barrel. So that was a quite small lifting comparatively. And therefore, we expect free cash flow to look significantly better in the fourth quarter as the underlift is corrected and working capital is improved. And we, therefore, expect Q4 and full year free cash flow to be positive, save for any disbursements relating to acquisitions. That would be particularly if the Block 56 transaction closes or in the fourth quarter, that would, of course, have an impact. Moving on to oil and gas investments. We invested a total of $8.6 million in the quarter. You can see clearly the rate of CapEx coming down throughout the year as we defer investments as in response to the oil price and the production restrictions. And still, the biggest investment is going into Blocks 3&4 with limited investments on 49 and 56 in the quarter and 58, recording the initial CapEx relating to the signing of that license. Block 49, we are anticipating the well to spud in Q4, but a majority of the incurred CapEx, we would expect to hit the cash flow in Q1 of next year. Moving to cash reconciliation. On the next slide, you can see clearly the effects of the operating cash flow, working capital and CapEx to the free cash flow and where we land at the cash position of $48 million at the end of the third quarter, which brings me to my final slide, which is the balance sheet. Despite a pretty appalling free cash flow in the quarter, we have an incredibly strong balance sheet. We have $48 million in cash. We expect that to stabilize with improving free cash flow in the coming quarter. We have no debts and significant equity. So I think this leaves us in a very strong position in the future and where there any further turbulence that might come. And with that, I'd like to hand over to Magnus.

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

Thank you very much, Petter, for this comprehensive run-through of our financial status. So let's turn now a little bit more to the operations. And I'd like to draw your attention to the slide showing the licenses in Oman. With -- as we are very pleased to say, an increasing number of areas where Tethys has license interests. We have been in sultanate for more than 10 years, and we have built a strong technical team, learned a lot about the geology of the country. And we do believe that we have an edge, and we have a comparative advantage compared to a lot of other companies in knowing what to look for and where to go to find it in a market. And that reflects the expansion we've seen over the last year with additions to a Blocks 3&4. 3&4 continue to underpin our cash flow to underpin our ability to distribute to the money and buybacks to shareholders. But also provide us with free cash to do other things and to try and grow the company from a position of both strength but also knowledge. With rather modest investments, we have increased our footprint in Oman in some quite interesting areas. And Blocks 49, 58 and 56 offer what we believe to be great promise for future growth. And of course, we are particularly happy to be able to secure these opportunities in the current oil price environment, where we are now in a position to invest with cash and cash flow and money that we have to be able to hopefully reap the profits from future production a couple of years, hence. Turning to the details over licenses. We have 30% in Blocks 3&4 and good partners CCT as operator, and we see a plan with a 20% stake. Blocks have been in production since 2010. And for these 10 years, we have managed to increase our reserves every single year while producing more than 10,000 barrels a day for the last 6 years. 49, we signed in 2017. We did the work we was opposed to. We have found at least one interesting prospect that we firmed up. And at the end of the 3-year period, we are now ready to drill. I should say that we have also an extension for 1 more year in order to drill and compete and evaluate the well we have to spud in December. 56 was signed in 2000 -- or rather, we found into Blocks 56 a year ago in October 2019. We had an additional 20%. What we've seen about the block we've liked. And we've just tried to increase our interest by doing a deal with Medco -- the current operator, to increase our interest to 65%. 58, another 100% unblocked by us, also operated by us signed in July. So it's really very early days. It's the same kind of exploration period, 3-to-3 years that we have in Block 49. And we are working on understanding the block more than we do already and doing the work for next year.Turning to Blocks 3&4. Pretty much operations, as usual, despite the pandemic situation. Production stable above 10,000, and we expect that situation to continue. Investments, as Petter noticed, have been curbed and a lot of deferments have been put in place, costs cut. But we are looking forward to one exploration well later this quarter that we hope should prove some interesting results also, of course. 49. Focus is really on the Thameen prospect. We've done the work. We have a rig that we are about to sign details. The final details are yet to be discussed. But construction at the drill site is ongoing, and we are looking for spuds in mid-December. Turning to the next slide, let's have a quick look at the cross section. We expect to drill the well down to about 4,000 meters and go through 3 known petroleum systems, one in the [indiscernible] formation and our main prospects in [indiscernible] and in the Sanhita sandstone further time. We are, obviously, very interesting to see both what we are going to find as far as an oil discovery or hydrocarbon discoveries. We hope to learn a lot more about the block by drilling this well, and we will keep you posted both on the progress of reaching our budget. And then, of course, what's going to happen as we drill and in particular, as we will be in a position to evaluate the well in the first quarter of 2021. On the next slide, we have some proof that we are actually doing work, as you can see from the civil work ongoing in real site with the building of the part. It's a flat area, dessert area, not too much sand in this part of the block. So fairly easy operations, and we are within kilometers of present -- of existing roads and within tens of kilometers from the [indiscernible] hardtop. So we don't expect any major difficulties in bringing a rig in and getting it out once we completed the work. Block 56 offers more to look at than Block 49, even as we start here. A lot more work has been done on Block 56. And we have oil to surface from several wells after we entered a testing program on 3 previously drilled wells has been carried out. And what we see materialize is a number of opportunities that relate both to the existing production in the adjacent Block 6 where Medco, so we are buying an additional interest in Block 56 from operating a medium viscosity 20-25-degree API oilfield. And we believe that the same play is active in Block 56. If we turn to the next slide, where we can have a very quick and bird's eye view. This is a picture of the overall geology of Block 56, where we have exposure in the Eastern Flank to the South Oman Salt Basin, the most prolific basin in Oman. That's what we believe we have similar opportunities to those in Block 6 with a medium heavy oil that could very well prove to be a first step towards production in Block 56. We will look at doing more evaluation there. And still, it's -- we are not in a commercial position. But of course, that's what we hope the evaluation will take us to as we continue the work. Then in the central part of the block, in the area where we have the well O2, for example, right in the center, we are in -- right in the middle between the South Oman Salt Basin and the tertiary basin, which is a lot younger. But we do believe here that we have a completely different set of players. All is good in, for example, the well. And with the existing seismic, we have found a whole band of interesting leads along the major black dividing fall that you see here in the middle. So if we turn to the next slide, you see we have opportunity in the area bordering Block 56. And then as we move to the center of the block, a number of leads probably controlled by the main 4 that we saw in the previous slides materialized.So what we're looking for, for next year is to continue the evaluation. Obviously, we were very keen to understand the area right next to Block 6. But also to understand the less explored area with the many leads in the center of the block. So we expect some quite a fair amount of work and some hopefully interesting results in the course of 2021. While turning to 58, actually in the mid--- right in the middle between 56 and 49, we are at the southern edge of the South Oman Salt Basin in the southern edge of Block 6. Not so many wells have been drilled here, but there is a lot of seismic and there is also a lot of indications from Block 6, a potential place. A number of leads have been identified. And if we turn to the next slide, we would like to highlight leads that we call Tethys Lead 1 and Tethys Lead 2, which actually -- would cover separate oil plants, but are in close proximity to producing fields in Block 6. So we are now going through all the legacy seismic that comes with a block to firm this up and to get a better understanding of how petroleum systems in the block could work. And then we'll have to see what the next step will be, but most likely, we will start by acquiring some seismic. Some of the horizons that could be all betting here the same that we have experienced from Blocks 3&4. And in particular, the Buah and Khufai reservoirs acquired prolific in 3&4. And we do believe that we can add some serious knowledge to what previous operators have done in this block. So that's really sums up where we stand at the end of the second, the third quarter and now in the early parts of the fourth quarter. A lot of activity in 49, where we drill an exploration well. We have a clear idea of what we do in 56 and 58. We see an exploration well in Blocks 3&4. And otherwise, we continue to produce in 3&4 at a level that we are actually rather content with. And we hope that our investments for future production will pay off in the future when we also will be able to produce and sell oil at higher prices. On that note, I would like thank you for listening and open the floor to questions if there are any.

[Operator]

[Operator Instructions] So our first question comes from the line of [ Stephanie Packard ]

[Unknown Analyst]

I've got 3 questions actually. The first one is around Q4 CapEx at Block 3&4 and to see whether -- how would you expect this CapEx to be compared to 3Q, which was quite low? Would there be something similar, a bit higher? Second is around the payable. So the payable at the end of Q3 are very low. I think if you look at the run rate, something like $9 million, $8 million, $9 million below the run rate. Would you expect those payable or that trend to be reversed in Q4, which could have, of course, a big impact on working capital belong purely, I think, what you described in the presentation around entitlement movements or sales of oil?And lastly, could you talk a bit more around the Anan-1 prospects? How material it is, whether it could have an impact -- a material impact on reserve and the risk profile?

[Petter Hjertstedt, Chief Financial Officer]

Thank you, Stefan. I think I'll take the first 2 questions and leave the last one to you, Magnus. The first question was on Blocks 3&4 CapEx, I believe. While I don't want to get into too many specifics, I do believe it would most probably be a similar level as this quarter with a few factors impacting it, potentially the timing of the spud of that and exploration well, how that may impact it, depending on how early that is spotted in the coming months. But otherwise, I think, that's the main thing. Well, when it comes to payables, I think you've seen that -- the general payables during the year has come down a bit. We would expect that maybe not a very big movement in that. But in part the underlifts that we have at the end of the quarter is -- will be on the impact the working capital and particularly the receivables side rather than the payable side. So I think it's more on that side rather than on any big movement on the payables. Does that answer your questions?

[Unknown Analyst]

Yes.

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

Then for the final question, the Anan-1 to be spudded. Okay. It's a near-field well, so it's close to producing wells in 3&4. From that perspective, it's reasonably low-risk compared to what the far-field well would be. And it will certainly have an impact on the reserves. But given that it is exploration well in a reasonably well-known area, we would not expect it to open up, say, a complete new field area. So it will certainly have an impact, but it's also a reasonable levers. Is that good enough, Stefan?

[Unknown Analyst]

Yes.

[Operator]

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

[Karl Fredrik Schjøtt-Pedersen]

Two questions, if I may. First, relating to the Thameen. If the sort of the -- any -- if you have a positive outcome on the exploration of. Is there any view because the other blocks or other areas that could potentially be it from deal? And the second question relates to they've seen Maha Energies in the same Oman. And of course, they have some of the single is it likely that you will cash rate more of the majoring companies in the [indiscernible].

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

Okay. Thanks, Karl. So first question relating to what Thameen could do for the rest of the block. And obviously, also, as I mentioned, it's -- the first well we do in the block, it's carefully chosen both to go for a well-defined prospect, but of course, also to yield the information for that entire area of Oman. I mean we are outside of the typical Omani basins, drilling in the Rub'Al Khali Basin, which is more -- much more extended in Saudi Arabia. So whatever the outcome of the well, it will yield some interesting information for future work in the entire southern Oman area. And from that point of view, now when we both have acres in 49 and 58, it will be irrespective of, shall we say, the result if we'll add some very -- it will give us some important information on how to continue to pursue and understand the 49, 58 area. And second question relating to partners in Oman. Well, right now, we are partners with CCED, Mitsui, Medco and 2 mining companies could be at [indiscernible] in touch. We are always open to interesting partnerships, and I have no direct comment to the company you mentioned, but we have an open mind and see what happens.

[Operator]

Next question comes from the line of [indiscernible] from [indiscernible] investment.

[Unknown Analyst]

I have a quick question to the OPEC+ production limitation. It's the question you are very limited because of your production limit of volume. Does this volume belong to you as a company, because, for example, if you see more oil in 56 and you want to develop it, are you limited so that you can't produce one more barrel more? So you can't take your time to find new oil? Or how is this production limitations going down to the field? That's my question.

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

Okay. So first, the production limitations area a sovereign agreement between the Sultans of Oman and OPEC. It doesn't -- or it has nothing to do with us as a company. It's the Sultans of Oman that has a cap on the total production, the country is allowed to bring to market in any good month. Now there are a number of blocks producing in Oman and the number of producers, petroleum development demand, the [indiscernible] JV between Oman and a number of other oil companies, is, by far, the largest producer doing almost 80% of the country's production. Now how the -- shall we say, calibration, the internal calibration within Oman plays out on a monthly and quarterly basis so that Oman can meet its quota and no more or at least meet its quota is really outside of our competence to judge and evaluate. All we can say is that in our experience, I mean, right now, we were given the mathematical quota under the OPEC+ agreement. We have been a larger producer more than that. And there is absolutely nothing tying, say, 3&4 to 56. If and when we would have a commercial declaration on Block 56, that will be an entirely new situation, and we would have no reason to assume that there would not be a production quota again to Block 56. To stay on this a little bit, there has been press reports in connection with, I think, among others, Oman taking up sovereign agreements a couple of months ago, couple of weeks ago, where there were indications that both reserves and production outlook for Oman is negative, which, of course, would suggest that it's very much in the south Oman's interest to encourage exploration and that also additional new exploration, a new production to meet declining production would be needed. So for the longer run, I don't think we are in the least concerned that where we do have sales in 56, 58 to 49 that we will not be able to produce that oil.

[Unknown Analyst]

And I have one more question, more on the macro view of your company. It's maybe quite important to have a good macro demand picture beyond COVID-19. So how do you see the oil demand in the world develops if COVID will go away? Is it in decline, the demand of your view of your company? Or will it plateau? Or will it rise to the end of this decade? What do you think?

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

Thank you for this question. It's an excellent one to elaborate on. What should we say? I mean, obviously, it's a difficult question. And -- but I think looking at -- we could with just some rather obvious observations conclude. One, for the last 20 years, oil consumption, oil demand has increased on a worldwide basis. Second, once the demand -- the COVID situation is over, we would, of course, expect demand to come back to levels close to where it was before. However, when it comes to the absolutely necessary investments in alternative energies, that will have an effect in the long run on the demand -- on demand. So I think what we would expect, really is that, first, we want to see the increase in demand flatten out. And then maybe plateau over the next 5, 10 years, something like that. But more importantly, for the price situation is that we are seeing a lot cutbacks in particular in exploration and appraisal projects worldwide, with some of the world's major oil companies cutting work. And we're also seeing from the capital markets that a lot of capital that's been available to the upstream industry is starting to disappear. And this will suggest that with a decline rate worldwide, some 5% a year, we will see supply shortages appear over the next 5 to 10 years. So on balance, we would expect oil prices to come back and possibly even if demand even stay stable, at I'd say, 100 million barrels a day. And with the current limitations of spending that we could actually see some more dramatic movements in the oil price on the upside.

[Operator]

[Operator Instructions] And there are no further questions. I'll hand back over to the speakers for concluding comments. Thank you.

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

In that case, thank you so much for listening. Thank you for your questions, and we hope to be in touch with you very, very soon. Thank you.

[Operator]

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