Fitch Ratings – London – 18 Nov 2021: Fitch Ratings has upgraded Seplat Energy Plc’s (Seplat) Long-Term Issuer Default Rating (IDR) to ‘B’ from ‘B-‘. The Outlook is Stable. Fitch has also upgraded Seplat’s senior unsecured rating for USD650 million senior notes due 2026 to ‘B’ from ‘B-‘, with a Recovery Rating of ‘RR4’.
The upgrade reflects improved financial flexibility and a strong liquidity profile following debt refinancing in 2021, which in our view will help Seplat survive for more than two years of force majeure without access to the Trans Forcados Pipeline (TFP). Amukpe-Escravos Pipeline (AEP), an alternative oil export route, has been completed and is undergoing commissioning, according to Seplat, but there is no certainty around when it will ship its first oil.
The rating incorporates the small scale of Seplat’s cash flows, concentration of the company’s asset base in Nigeria (B/Stable) and a historically unstable operating environment in the troubled Niger Delta, including recurring issues with the oil transportation system. The rating also reflects moderate leverage, conservative financial policies, competitive unit profitability, end-2020 2P reserve life of 27 years, and a growing domestic gas business.
KEY RATING DRIVERS
Resilience to Prolonged Pipeline Disruption: Seplat’s debt refinancing in 2021 has resulted in no maturities in 2022 and just USD27 million of maturities in 2023. Its debt repayments are USD44 million in 2024 and USD40 million in 2025. We expect Seplat to be able to service its debt even in the extreme scenario that its export route via TFP is not operational in 2022-2023. It had USD220 million of unrestricted cash at 30 September 2021, and it should be able to generate cash flows from its eastern assets and use the expensive Warri refinery export route for its western assets if TFP is shut down.
Continued Delays with AEP: Following multiple delays since 2014, Seplat’s latest guidance on AEP’s first oil flow is December 2021. Seplat also needs to agree offtake terms for the oil before shipments can begin. The start of oil deliveries though AEP remains uncertain, in our opinion. AEP will allow oil exports of 40 kb/d, reducing over-reliance on the TFP export route that had adversely affected Seplat in the past. The underground AEP should materially improve the pipeline uptime (74% in 9M21 for TFP) and shrink losses from crude theft and reconciliation (11%).
Small Nigerian E&P Company: Seplat’s operations are concentrated around the Niger Delta region of Nigeria. The Nigerian oil and gas sector is characterised by high operational risks and regulatory uncertainty. Its main assets are oil mining leases (OMLs) 4, 38 and 41, which accounted for around 79% of 9M21 production and are reliant on the TFP. We expect Seplat to ramp up its daily oil and gas output to 59 thousand barrels of oil equivalent per day (kboe/d) until 2024 from 47 kboe/d in 9M21. In our view, OPEC+ cuts, which are gradually being unwound, will not hinder Seplat’s production growth.
Inorganic Growth: We expect management to actively seek opportunities for inorganic growth in Nigeria. Domestic opportunities exist as oil majors continue to streamline their portfolios, exiting Nigeria. Seplat’s ability to expand through acquisitions is boosted by an undrawn USD350 million revolving credit facility (RCF). We view Seplat’s financial policies as conservative for the rating with funds from operations (FFO) net leverage averaging 1.7x in 2021-2025. Our view is underpinned by debt management, flexibility on dividends and on capex, as seen during the TFP non-availability in 2016-2017. We view large acquisitions as an event risk.
Gas Business Provides Stability: Seplat’s growing footprint in the domestic gas market will enhance cash flow stability as gas sales benefit from more predictable domestic gas prices than oil. Nevertheless, regulated gas price under domestic supply obligation for power generation (around 30% of Seplat’s gas volumes) was lowered in July 2021 to USD2.18 per thousand cubic feet (kcf) from USD2.5/kcf, after having been flat through 2014-2020. Seplat sells the rest of its gas to commercial companies at contract prices averaging USD2.9/kcf. Its gas production was 19 kboe/d in 9M21, or 41% of total hydrocarbon volumes.
ANOH Plant Scheduled for 1H22: ANOH gas processing plant (GPP) – which is 50%/50%-owned by Seplat and Nigerian Gas Company Limited (NGC) – underpins the former’s effort to further expand gas operations, adding 300 kcf/d to its existing 465 kcf/d gross processing capacity. The JV partners have finalised non-recourse debt funding for the project, which is an important milestone. Seplat expects to start receiving dividends from 2023, although we conservatively do not include any contribution in our rating case. Seplat is also marginally expanding its GPP at Sapele and adding liquefied petroleum gas unit to it.
Income Tax Capital Allowance: Seplat pays income tax that is reduced by its accumulated capital allowance derived from historical expenditures. We forecast its effective income tax rate on oil production to remain considerably below the nominal 85% until its USD747 million capital allowance at end-3Q21 is exhausted. We conservatively assume that Seplat will start paying significantly higher income taxes in 2025, based on our oil-price assumptions. Seplat has an option to remain in the current tax regime until its concession terms expire despite the enactment of the new tax system in 2021.
ESG – Social: We have revised Seplat’s ESG Relevance Score for Human Rights, Community Relations, Access & Affordability to ‘4’ from ‘5’ as deeper communication and cooperation between local communities, the government and Seplat have significantly reduced the number of attacks on oil infrastructure. The uptime in recent years was 74% in 9M21, 83% in 2020, 92% in 2019 and 85% in 2018, compared with 50% in 2017.
Seplat’s upstream operations focus on the troubled Niger Delta region. Historically, this area has been a high-risk environment driven by militancy, crude oil theft, pipeline sabotage, as well as environmental pollution arising from militant strikes against oil infrastructure. TFP was shut down for 305 days in 2016 and more than 182 days in 2017, adversely affecting Seplat’s operations.
We rate Ithaca Energy Ltd. (B/Stable) at the same level as Seplat. Ithaca benefits from slightly lower leverage, a more robust hedging position, higher production volumes (2020: 65kboe/d) and operations in the UK North Sea, which is a more stable operating environment compared with that of Seplat, which is based in Nigeria. This is mitigated by Seplat’s bigger reserve base, higher reserve life (Ithaca: five years on a 1P basis) and lower costs.
Compared with Kosmos Energy Ltd. (B/RWP), Seplat has a bigger reserve base, higher reserve life and stronger credit metrics. These strengths are offset by Kosmos’s more diversified asset base in a more predictable business, larger scale and a more stable operating environment compared with Seplat’s high exposure and concentration to areas characterised by geopolitical risk.
Fitch’s Key Assumptions within our Rating Case for the Issuer:
- Brent oil price of USD70/b in 2021 (reflects YTD performance and Fitch’s price deck), USD55/b in 2022 and USD53/b in 2023-2025
Average realised gas price of USD2.65/kcf in 2022 and USD2.5/kcf in 2023-2025
Upstream production ramping up from 48 kboe/d in 2021 to 59 kboe/d in 2024
Dividends of about USD58 million a year in 2022-2025
Fitch’s Key Assumptions for Recovery Analysis:
The recovery analysis assumes that Seplat would be restructured as a going concern (GC) rather than liquidated in a bankruptcy
Seplat’s post-reorganisation, GC EBITDA is estimated at USD223 million, based on the current asset base, which assumes a drop in EBITDA, due to risks associated with hydrocarbon-price volatility, potential unplanned downtime or other adverse factors, followed by a modest recovery including corrective actions
We have applied an enterprise value (EV)/EBITDA multiple of 4x to calculate a GC EV, reflecting the risks associated with the operating environment in Niger Delta Region of Nigeria. The multiple has been revised to 4x from 4.5x to take into account the current trading multiple for Seplat and future availability of upstream assets for sale in Nigeria given that oil majors are exiting the country.
Our waterfall analysis assumes Seplat’s USD350 million senior secured RCF, USD110 million Westport reserve-based lending facility (RBL) and USD50 million Westport offtake facility are fully drawn and rank senior to Seplat’s senior unsecured notes
After deducting 10% for administrative claims, Fitch’s analysis resulted in a waterfall generated recovery computation (WGRC) for the senior unsecured notes in the ‘RR4’ band, indicating a ‘B’ instrument rating. The WGRC output percentage on current metrics and assumptions is 45%.