It’s been a rough six months for Tullow Oil (LSE: TLW) as a $0.75bn rights issue closely followed by a $0.6bn writedown have led to the African oil producer’s shares shedding over 45% of their value in the past half year. And with $3.8bn in net debt and a $0.3bn loss in the first six months of 2017, the more nervous investors among us may be asking themselves whether Tullow will be around much longer if benchmark oil prices refuse to rise above the confidence-boosting $50/bbl threshold.
On this ground there is good news. The $0.3bn post-tax loss racked up in H1 was due to the aforementioned writedown to the value of property, plant and equipment that management warned about in its June trading update. Indeed, in H1 the company managed to produce $0.2bn in free cash flow, which shows its low cost of production assets are proving profitable even at today’s low oil prices.
This free cash flow together with the proceeds of the $0.75bn rights issue also allowed for net debt to fall by $1bn year-on-year to $3.8bn. However, with oil prices remaining stubbornly low, this level of net debt is still a full 3.3 times trailing 12 month EBITDA, well above the company’s long term target of 2.5 times.
So the company should be safe to muddle on, especially as it ramps up production from the newly operational TEN Field in Ghana. The bad news is that unless you’re absolutely convinced oil prices will be rising significantly in the short term, I don’t see Tullow as a great investment at this point.
First off, the writedown came about from management revising downward medium term oil price projections, which is never a bullish signal. Second, the high level of debt will take some time to whittle down and in the meantime related payments will constrict capital expenditure necessary for future growth and preclude a return to dividend payouts. Lastly, with its shares pricey at 12.8 times 2018 earnings, Tullow is no bargain basement pick.
Is no one safe?
Stubbornly low oil prices are also causing problems for traditionally less volatile oil services firms as well. For proof, look no further than expert well driller Hunting (LSE: HTG), which was forced into an $83.9m rights issue late last year to shore up its balance sheet.
The proceeds from this rights issue have dramatically improved the balance sheet, with net debt down to just $1.9m at year-end. Unfortunately, continued weak demand, even in the US onshore market where Hunting is most active, has led to the company remaining lossmaking and net debt once again marching higher to end H1 at $8m.
There is some good news as the company’s management team is confident that the US onshore market is continuing to improve. Indeed, increased orders from customers and subsequent inventory build-up were to blame for the upward movement in debt in H1. But with management warning that its operations are still lossmaking at a post-tax level and no sign of oil prices, and thus well drilling activity, increasing anytime soon, I’m steering clear of the shares.