Question List 4 - Risks Related to the Magnitude and Timing of Decommissioning Liabilities

LONDON, Feb. 5, 2020 /PRNewswire/ -- As detailed in ARCM's recent statements (available here), we continue to pose questions to the Company relating to the proposed acquisitions. As previously emphasized, ARCM believes these acquisitions will expose the Company and its business to significant incremental risks.

For the benefit of all the Company's stakeholders, we call upon the Company to provide full and transparent responses to these questions.  

In this fourth set of questions, the focus is on the risks associated with the decommissioning liabilities that come with the proposed acquisitions. Specifically, i) the scale of the decommissioning liabilities of the proposed acquisitions which are incremental to the Company's substantial pre-existing decommissioning liabilities; ii) the "true" acquisition price for the proposed assets, inclusive of this assumed liability; and iii) the risk that some of these liabilities cannot always be deferred. 

Company Statements Regarding the Decommissioning Liabilities Associated with the Proposed Acquisitions

Although there is limited disclosure, below are ARCM's observations based on the Company's RNS (available here) and presentation (available here) on 7 January: 

• The $600 million pre-tax decommissioning liabilities are not disclosed anywhere in the 17-page presentation that was used for the call with analysts on 7 January
• The "Aggregate Headline Price of $816 million" also does not seem to include the assumed decommissioning liabilities 
• The RNS provided the following high level detail: "There is limited near-term decommissioning expenditure expected by Premier, but a medium to long-term liability of $600 million (pre-tax) from 2025 onwards. It is Premier's intention to retain financial responsibility for the decommissioning expenditure associated with the Andrew and Shearwater Assets, and in respect of the Andrew Area to operate the abandonment of the Andrew Assets."
• ARCM also understands that, during the Q&A session with analysts on 7 January, the Company said that it could reduce the $600 million pre-tax liability by up to $300 million due to BP's tax history which will be transferred to the Company

Questions Regarding the Risks Associated with Increasing Decommissioning Liabilities and Why They Cannot Always Be Deferred (Solan Example)

To enable stakeholders to properly evaluate the merits of the proposed acquisitions, ARCM calls upon the Company's management to provide responses and disclosures to the following questions:

1)  Does the $816 million "aggregate headline price" accurately reflect the cost of the acquisitions given that the Company will be taking on $600 million of pre-tax decommissioning liabilities?

2)  How will the BP indemnity (in respect of the Company's obligations towards BP in respect of the decommissioning liabilities) be reflected on the Company's balance sheet? Are there any conditions in the BP agreement that could force the Company to post letters of credit before decommissioning actually starts?

3)  The Company already has $1.2 billion of decommissioning liabilities (details available here) which is significant in the context of $2.4 billion of net debt. With these proposed acquisitions, the Company would add an incremental $600 million of pre-tax decommissioning liabilities.  

The Company's creditors are being asked to extend maturities by 2.5 years in order for the Company to pursue these high-risk acquisitions, with the creditors taking the risk of credit market access for a refinancing in 2023. Any refinancing in 2023 is going to be highly dependent upon the Company's expected cash flow generation capacity in 2024-2028, and its decommissioning commitments in those years (including any acceleration of such liabilities). 

In this context, it is critical for creditors to understand the Company's annual decommissioning commitments in those years, and beyond, taking into account the material risk that payments could accelerate.

• Accordingly, what is the Company's projected annual decommissioning spend during 2024-2028 and what are the risk factors (such as the current forward curve or the need to convert 2C resources into producing assets) that could bring these costs forward?

4)  Whilst the Company has indicated that its goal is to defer decommissioning for as long as possible, this is not always within the Company's control. Operational challenges, the ability to successfully convert 2C resources to producing assets, and lower commodity prices all have a significant impact on whether a particular field can continue to extend its useful life, and the associated cost of doing so.    

An example of this is the Solan field which was expected to reach a peak production rate of 20-25 kboepd when the second producing well was completed and tied-in, with decommissioning not scheduled until the mid to late 2020s ⁽¹⁾. To the disappointment of all stakeholders, the field is currently producing 3.5 kboepd (details available here). 

In respect of Solan's productive life, we understand from analyst reports that the Company will drill an infill well in 2020 at a cost of $75-$80 million ⁽¹⁾.

• In a scenario where the drilling campaign is not successful, would Solan's expected decommissioning expense increase meaningfully over the next few years instead of being deferred?

This example of operational and commodity price risk demonstrates the critical need for creditors to understand the decommissioning risks associated with Shearwater and Andrew. Specifically:

• Based on the current forward curve, which is significantly lower than the CPR estimates, when do decommissioning liabilities for Shearwater arise and what is the projected quantum of such liabilities?
• Given the rapid decline of the Andrew Area liquids production, what would the impact on decommissioning quantum and timing be if the Andrew LC UK gas development is not pursued due to low UK gas prices, or if it does not meet expectations in terms of the conversion of 2C resources into producing assets?

5)  While the Company apparently mentioned that the $600 million of pre-tax liabilities being acquired could be offset by the transfer of tax history, it is notable that this was not included in the Company's RNS on 7 January given its potential materiality. As such is there any risk associated with the Company's ability to reduce the $600 million of pre-tax decommissioning liabilities by utilising BP's tax history?

Note: 1) Based on analyst estimates

Greenbrook Communications
arcm@greenbrookpr.com  
+44-207-952-2000

SOURCE Asia Research Capital Management (ARCM)