Description

Valuing a new and unproven technology can be a challenging task for the stock market.  Further, valuing a new technology in an opaque sector of the energy market amid plunging commodity prices can result in disruption, volatility and panic selling and shorting of anything energy related, particularly for an energy “shipping” stock that screens expensive on both a P/BV and P/E basis.  Such has been the case with Golar LNG Ltd (“Golar” or “GLNG”), a Company with a first mover advantage in standardizing floating liquefaction natural gas (“FLNG”) vessels.   As described in more detail later, each FLNG has the potential to add ~$25 per share to Golar’s stock price at the time of delivery/dropdown to its publicly traded MLP Golar Partners (“GMLP”), presenting significant upside for an opportunistic management team and a Company with a growing pipeline of FLNG opportunities.   

However, the decline in oil prices that started mid-last year, and more specifically the resulting depressed natural gas prices in Asia and Europe, has resulted in a volatile stock price as the market has traded Golar’s stock in line with oil price movements.   We believe Golar’s current stock price materially understates the progress the Company has made on FLNG opportunities and that there is approximately 100% upside in Golar over the next year to $85 with further upside in the years to follow as Golar transforms itself from a shipping company to a leading LNG midstream operator.  In the paragraphs to follow, we’ll explain the upside that Golar offers, the concerns and risks of an investment and why we think it’s a compelling investment opportunity that can pay off handsomely.  But first, a quick overview of what Golar owns today.

Currently, Golar owns the following assets:

• 11 operating LNG carriers (10 modern tri-fuel carriers and 1 older carrier) primarily operated under spot contracts

• 1 FSRU (floating storage and regasification unit) newbuild unit delivering in December of 2015

• 19 million shares of Golar Partners (NASDAQ: GMLP), 2% of the GP of GMLP and 100% of its IDRs, which are set to enter the 50/50 splits upon dropdown of the FSRU Tundra.  GMLP owns 6 FSRUs + 4 LNG tankers operated under long-term contracts

• 4 older LNG carriers, of which two are currently under conversion to FLNG units at Keppel shipyard

While attributing future value to the FLNG units is the most debated and controversial topic when it comes to assigning value to Golar, Golar’s other assets - its LNG carriers, FSRU, its ownership stake in GMLP and its GP stake in GMLP – have rather liquid markets to assist in determining fair market value.  Ship brokers report newbuild and second-hand transaction values for LNG carriers, Golar’s FSRU has both a newbuild price from the yard and recent comps to compute a dropdown value, GMLP is publicly traded and the cash flow from the GP ownership can be assigned a multiple against a peer set.  As illustrated in the table below, we estimate the current fair value for Golar’s non-FLNG assets is $25-$30/share.  Given weakness in the LNG carrier market due to oversupply of vessels, assigning the lower end of the value range is certainly justified.  For purposes of this exercise, I’ll use a value of $27.50 which represents the mid-point of the current market value of Golar’s assets and the estimated drop down value of the assets into GMLP.  There is also a logical argument as to why the value of Golar’s “legacy” assets will be higher than these levels in 1-2 years.  Specifically, a tightening of supply/demand in the LNG shipping market should drive higher charter rates and asset values beginning in 2017 and GMLP currently looks quite cheap if the FLNG dropdown opportunity plays out – MLPs with a 10% dividend yield and a potential pipeline of dropdown opportunities that are 3-5x the current market cap (which will result in material dividend increases despite the potential for re-chartering its existing LNG fleet of 4 at lower rates as contracts start to expire in 2017) are few and far between.

(Given the vast amount of sell-side data on the LNG tanker market, we won’t spend additional time on the LNG market in this write-up and will instead focus on Golar’s FLNG opportunity given its significance in valuing Golar.  If you are interested in digging in further, we would be happy to share additional thoughts on this market.)

Assuming a value of $27.50 for Golar’s “legacy” assets, the current stock price of ~$43 carries a premium of ~$15-16 for the Company’s opportunity in FLNGs, a premium we view as too low given the progress the Company has made on FLNG opportunities. While we are cognizant of the current risk-off mentality of investors with regards to the energy sector, we believe patient investors will be handsomely rewarded as existing and future FLNG contracts are finalized and as FLNG vessels start generating cash flow and are sold to GMLP.   Before we get into the details of valuing Golar’s FLNG opportunity, I’ll provide a brief overview on what FLNG is and Golar’s current progress and positioning.

What is FLNG?

A Floating Liquefaction Natural Gas (or “FLNG”) unit is a water-based vessel that can liquefy natural gas to produce LNG and transfer the LNG into an LNG tanker for transport to its end destination.  Being water-based, FLNGs offer the flexibility to move locations making LNG a viable opportunity in smaller gas fields which were previously considered uneconomical for land-based liquefaction projects.  Golar’s initial FLNG solution, which the Company has self-named GoFLNG, is a conversion of older LNG hulls.  Each FLNG unit will contain 4 LNG trains with a total liquefaction capacity of up to 2.8 million tons of LNG per annum.  For the most part, the Company is working with a “standardized” design that requires ‘pipeline quality’ (dry and clean) gas that is located offshore or close to a coastal area where benign to moderate met-ocean conditions exist.  The combination of this vessel “standardization” for targeted gas fields (which don’t need or already have processing capability), use of converted LNG carriers and controlled shipyard costs at Keppel positions Golar as the lowest cost solution among LNG producers.  Including contingencies for cost overages, Golar is constructing LNG capacity at $400-$500/ton which compares very favorably to U.S. projects such as Cheniere’s Corpus Christi which will cost ~$800/ton to construct.  Inclusive of Australian projects, the Oxford Institute estimates the average capital costs of liquefaction plants reached $1,200/ton in 2013.  Golar’s FLNG solution also compares favorably to the handful of other purpose-built FLNG projects currently under construction, which range from ~$700/ton (Exmar’s Pacific Rubiales FLNG barge but constructed in China) to over $2,000/ton (Shell’s Prelude FLNG).

The revenue model for independent LNG producers is typically driven by a tolling fee paid to run gas through the liquefaction plant to produce LNG.  In the U.S., Cheniere (NYSE: LNG) has developed a market where current pricing has hovered around $3.50/MMBtu, although earlier deals were signed up around $3.00/MMBtu.  Golar’s initial FLNG conversion units will produce ~2.7 million tons of LNG per annum (with variation due to the ambient temperature of the geography), or ~135 trillion Btu.   At a utilization rate of 88%, or 2.4 mtpa, an equivalent tolling fee of $3.50/MMBtu and FLNG operating costs and maintenance capex reserves of $40MM per annum, Golar’s FLNG unit can produce EBITDA of ~$380 million annually, representing an unlevered payback period of ~3.0 years in an industry where 15-20 year contracts have been the norm.  Assuming management’s guidance of 70% debt financing, this also equates to an annual cash-on-cash return on equity of ~90%.

How much progress has Golar made with FLNG?

Over the past 18 months, Golar’s FLNG plans have developed from a concept to a reality with two vessels, the Golar Hilli and the Golar Gimi, under conversion to FLNG vessels at Keppel shipyard and a third vessel under negotiation to begin conversion.  Below, we have summarized Golar’s progress to date on known FLNG opportunities.

FLNG #1 – Perenco Cameroon

Golar’s first FLNG unit, the Golar Hilli, is set to work for Perenco Cameroon (“Perenco”) off the coast of Cameroon with start-up in Q2 2017.  On June 30, 2015, Golar announced that, subject to the Heads of Agreement announced in December 2014, agreement had been reached with the support of the Boards of Golar and Perenco on the material commercial terms of the contract.  The Perenco agreement will utilize 2 of the available 4 liquefaction trains for a period of 8 years.  The project is expected to deliver an EBITDA for Golar in the first full year of operation, based on the utilization of 2 of the available 4 liquefaction trains, in the range of $170 million to $300 million, with a flexible tolling structure which correlates to Brent crude oil prices ranging from a floor of $60/bbl to a cap of $102/bbl.  This equates to a tolling fee of $3.30/MMBtu - $5.50/MMBtu assuming annual opex and maintenance expenses of ~$30MM for the first two trains.  The table below illustrates the economics of an FLNG unit at the low end of the tolling fee range on the Perenco FLNG as well as illustrative tolling fees for future FLNG projects.

The Perenco contract is subject to sign-off with Societe Nationale de Hydrocarbures ("SNH"), Perenco’s JV partner, and the Cameroon government. Similarly, the Midstream Gas Convention setting out the regulatory and fiscal regime governing the FLNG operations in Cameroon is being progressed in parallel with the Tolling Agreement and is also subject to final sign off with the government.  Both SNH and government officials have been party to the Golar & Perenco contract negotiations to date, and thus the Company believes there is little risk of not obtaining final approval by all parties, which is expected around the end of Q3’15.  

Of significance, the terms of the Perenco contract did not contain a condition for Perenco obtaining a long-term offtake agreement with an end buyer.  While industry sources indicate Perenco is in final talks with 3-4 large public companies for an offtake that could be announced within a couple months, the breakeven costs of the project are low enough that Perenco is able to generate a profit by selling into the European spot market at current depressed spot LNG prices, which currently sit around $6.40/MMBtu.  This is driven by Perenco’s low upstream breakeven costs of around $1.00/MMBtu, which is facilitated by Golar’s FLNG which can station close to the gas field eliminating additional infrastructure costs such as takeaway and transportation costs.  Assuming an upstream breakeven cost of $1.00/MMbtu plus processing costs of $0.50/MMBtu, selling LNG into the European spot market would generate profit of ~$0.91 MMBtu to Perenco at current spot LNG prices.  Notably, this excludes the value of liquids produced from the Kribi field that Perenco will realize from selling domestically.  Netting these proceeds (estimated at $~0.75 / MMBtu equivalent) against the upstream cost would lower upstream breakeven costs to ~$0.25.  This low breakeven cost exemplifies the value of Golar’s FLNG solution in an industry where high cost land-based liquefaction facilities have become the norm.

In addition to the contract for the first two trains on the Hilli, potential exists for increased project volume and life of field.  There are additional vast gas reserves nearby the Kribi gas field in Cameroon which are currently controlled by GDF Suez under a license grant from the Cameroon government.  GDF Suez is currently conducting a Front End Engineering Design (“FEED”) study to construct a ~3.5 million ton on-land liquefaction plant in Cameroon.  GDF Suez has held this license and intention to build a liquefaction plant for 7 years with no progress made to date.  Given GDF Suez’s inability to make progress at much higher oil and LNG prices, Golar management believes there is a good chance that post FEED study in 2H15 GDF Suez will abort thoughts for a land-based facility opening the door for the utilization of the remaining two trains of Hilli and potentially another FLNG.  

Lastly, as a sign of confidence in the Hilli project, both Keppel and Black & Veatch (provider of top side liquefaction equipment) have taken equity ownership in the vessel.  This alignment of interest bodes well for construction costs coming in on or under budget.  As of 3/31/15, Golar had made payments of $360MM to Keppel.

FLNG #2 – Ophir Equatorial Guinea

On May 5, 2015, Golar announced it had signed a binding Heads of Terms with Ophir Energy Plc ("Ophir") for the provision of the FLNG vessel Gimi.  The Gimi will work for Ophir’s Fortuna FLNG project in Block-R, Equatorial Guinea.  Block R contains 2.5 Tcf of high purity 2P gas resources situated in an area of benign sea conditions, which is ideally suited for the application of Golar's FLNG technology.  The agreement will be structured as a 20-year tolling contract commencing commercial operations in the first half of 2019.  At full production, the vessel will have a contracted capacity of 2.2 mtpa of LNG, to be marketed by Ophir and GEPetrol (Ophir’s partner in the project). The project is expected to deliver an EBITDA for Golar in the first full year of operation in the region of $350 million.  This equates to a tolling fee of approximately $3.50/MMBtu at 2.2 mpta.  Additionally, there will be variations made to the Gimi design to accommodate production direct from the deep-water reservoir.  Ophir will compensate Golar for the additional capital costs with an additional earnings stream on top of the $350 million of annual EBITDA. The integrated Ophir/GEPetrol/Golar project is expected to take FID during the first half of 2016 following completion of an upstream FEED study.

In addition to its economic impact, the Ophir decision can be looked at as a vote of confidence in Golar’s FLNG solution and its management team.  Ophir had previously announced it would use Excelerate Energy to develop an FLNG solution but switched to Golar due to their more competitive costs and ability to deliver an FLNG solution in a shorter time frame.  Ophir’s decision to use Golar gives additional merits to the bull case scenario that Golar is set to revolutionize the LNG industry with the world’s lowest cost LNG solution.  Additionally, the Ophir Heads of Terms signing developed quickly with discussions to signing taking about a month.  After the prolonged Perenco contract which un-nerved investors, this quick contract development is a positive indication for future FLNG contract announcements.  With the experience of the Perenco contract behind them and additional buy-in from E&Ps and soon-to-be-announced off-takers, future contracts should develop at an accelerated pace.

Nonetheless, we acknowledge that the Ophir project is not yet finalized and question marks will remain until the project takes FID and any required funding is secured.  Ophir’s market cap is ~$1.1 billion and the upstream cost for the Fortuna project is estimated to be ~$800MM to reach first gas.  In order to fund the project, Ophir will likely sell down equity to an upstream partner and raise debt.  While we will not pretend to be an expert on Ophir, we’ve been told that Ophir’s breakeven upstream cost in Equatorial Guinea is similar to Perenco’s at ~$1/MMbtu and that Ophir’s resource base makes it attractive for JV partners or as an acquisition target for larger E&Ps.  Given the profitable economics to Ophir at current depressed LNG prices, we believe the likelihood of the project proceeding is very high.  

Supporting our high conviction view on the Ophir project proceeding, on July 9, 2015 Ophir announced they awarded the Upstream FEED contracts to two contractor consortia.  In the release, Ophir’s CEO Nick Cooper commented, “The selection of FLNG to monetize our Block R resource base has drastically reduced gross development capex to first gas from the c.$3bn estimates for a conventional LNG plant to c.$800mm for FLNG, and has also reduced development lead time; thereby accelerating first gas by 2-3 years to 2019. These improvements significantly enhance the Project’s upstream IRR.”  This underpins our thesis that Golar’s FLNG allows creation of the lowest cost LNG in the world, and significantly lower than land-based liquefaction.  Moreover, Ophir also noted two other positives in this press release as it relates to Golar’s future FLNG pipeline.  First, Ophir described the Block R resources as having a production life of over 30 years, suggesting the potential for additional contract life for the FLNG Gimi.  Second, Ophir mentioned they are considering contracting a second FLNG vessel for a 900 Bcf field of low risked prospective gas resources.  While this second FLNG wouldn’t be in operation until the middle of the next decade, it underscores the attractiveness Ophir sees in future FLNG potential.

FLNG #3 - #8 (West Africa, Rosneft, West Canada / Cedar LNG)

After announcing the Ophir contract, Golar also announced they have begun negotiations with partners Keppel and Black & Veatch for a third GoFLNG vessel with a desired start-up in 2018.  While a specific partner has yet to be disclosed, we believe the location will likely be in West Africa and that Golar has been engaged in discussions towards an announcement for the last couple of months.  While we don’t have insight into the timing of an announcement, given our belief that discussions are quite advanced, we would not be surprised to see an announcement of a heads of terms in the third quarter, which should provide a further catalyst for the stock.  

In addition to West Africa, Golar announced in March a Memorandum of Understanding with Rosneft Oil Company to develop opportunities for use of Golar’s FLNG technology in Venezuela (in partnership with PDVSA) and potentially other locations.    The parties are targeting the signing of two FLNG units and tolling agreements for projects within Rosneft's portfolio.  Startup for the vessels would be expected in the 2019/2020 timeframe.  Rosneft is the third largest gas producer in the second largest gas market globally providing a further vote of confidence in Golar’s FLNG solution.  Management also has noted that discussions continue with Rosneft about other FLNG opportunities within their portfolio.  Given current sanctions on Russia, there is added risk to the Rosneft contract progressing.  Nonetheless, the project’s partnership with PDVSA and location in Venezuela may provide a way around any Russian sanctions.  Additionally, the gas market currently constitutes a “gray area” of the sanctions against Russia as Europe imports 30% of its gas from Russia, making them a vital energy partner.  

Lastly, Golar has been involved with Haisla Nation to provide two to three FLNGs to support the Cedar LNG project in Western Canada.  Cedar LNG has applied to the National Energy Board in Canada for LNG export permits of ~15mtpa, with a revised application submitted on May 1.  In parallel, the Haisla Nation and Golar have been in discussions to finalize appropriate governance and organizational frameworks to fully support the Cedar initiative through to a final investment decision, which is currently scheduled for late 2016 / early 2017.  Golar and Haisla expect to conclude these negotiations in the near term.  Importantly, the Cedar LNG project is dependent on successful implementation of large scale pipeline infrastructure projects delivering shale gas into the Douglas Channel from Western Canadian gas fields.   Given the dependence on the FID (final investment decision) of non-related parties, the Cedar LNG project carries a higher risk of attaining FID in a low oil price environment.  Nonetheless, on their Q1’15 earnings call, management noted that these Canadian shale projects “continue to make good progress,” which would increase the likelihood for FID on the pipeline projects required to bring the gas to the Douglas Channel.  We, however, assign more risk that the Canadian project will take final FID in the current oil and gas price environment.  Our caution arises from the distance of the field from the Douglas Channel and the associated infrastructure required (see map below) removing the cost advantage that Golar’s FLNG technology has in in accessing low cost offshore gas fields.  

Below, we have summarized Golar’s current known FLNG contracts and pipelines.  In addition to these opportunities, the Company is actively seeking new FLNG opportunities.  On their Q1’15 earnings call, management noted they are currently evaluating around 20 FLNG opportunities globally with “a reasonable subset of those 20 [having] the potential to become meaningful projects.”  This is up from less than 5 opportunities a year ago.  Despite the current environment of depressed oil and LNG prices, interest for Golar’s FLNG technology has accelerated.

Where is Golar’s FLNG technology most misunderstood?

Before we get into the valuation of FLNG, we wanted to share our thoughts on where Golar’s FLNG solution seems to be most misunderstood, which is its technology allows delivery of LNG at the very low end of the LNG cost curve.  Given the energy carnage and sell-side focus on larger land-based LNG facilities, there has been very little discussion around this topic, particularly as it relates to accessing very low cost gas fields that previously (due to size, geography and political instability) were not economically accessible.  By positioning FLNG in close proximity to these low cost, dry and clean gas fields, Golar and its partners can access natural gas cheaply where minimal pipeline and processing infrastructure is required.  Compare this to the U.S., where netback prices in prolific natural gas shale basins such as the Marcellus and Utica are priced at over a $1 discount to Henry Hub due to the high transportation and processing costs to deliver gas to the U.S. Gulf for (eventual) export, and the cost advantage of Golar’s FLNG solution becomes clear.

Further, Golar is building LNG liquefaction capacity at the low end of the LNG construction cost curve, or ~$450/ton.  Unlike competitors who are building at ~$1,000/ton and require a $3.50/tolling fee to generate an adequate return, if market forces required, Golar could liquefy natural gas at a $2.50 / MMBtu tolling fee and still generate substantial returns that award investors.  Under a $2.50 tolling fee, we estimate that each FLNG unit is worth over $15/share at time of delivery, or ~$11.50 discounted back three years.  Further, Golar’s first mover advantage and focus on vessel standardization in the nascent FLNG industry gives Golar a multi-year runway for outsized economic returns from FLNG units.  

What is FLNG worth?

Given the very attractive project economics (building at ~3.0x EBITDA) at a $3.50/MMBtu tolling fee, the long term contract dynamics of LNG, and the dropdown potential and residual IDR cash flow stream to Golar, each fully utilized FLNG should create ~$25 of value to Golar shareholders at time of dropdown.  Our basic assumptions for dropdown are FLNGs are sold to GMLP at 7.5x EBITDA, FLNGs are financed at GMLP at 50/50 debt/equity at a 5.5% cost of debt, GLNG is in the high IDR splits (they receive 50% of incremental distributions), GLNG trades at a 5.0% GP dividend yield and lastly that GMLP continues to trade at a 10% dividend yield (should GMLP stock trade higher, the FLNG dropdown value to GLNG will increase).  

Below, we have presented the value creation from the first FLNG set to work for Perenco.  For drop-down purposes, we assume the bottom of the EBITDA range (or ~$170MM) for the first 2 LNG trains plus an additional train is contracted at the bottom range of the tolling fee which will bring on an incremental $90MM of EBITDA for a total of $270MM of EBITDA sold to GMLP.  We believe the dropdown of this FLNG will create $13.64 of value at GLNG broken down by $7.28 of cash gain on sale to GMLP, $6.02 of gain from the increased dividend payout at GLNG from the GP/IDR ownership, and an additional $0.34 from increased GMLP share price as a result of their dividend increase.  Further, we value the additional income stream that comes from higher oil prices on a DCF basis to GLNG and assume that will not be sold to GMLP given the unpredictable nature of its associated cash flow stream.

Next, we value the Ophir deal which will utilize all 4 trains.  The math is similar, expect with a higher contractual annual EBITDA.  We estimate value creation at dropdown of $25.97 per GLNG share, as seen below.

This math can be repeated for future FLNGs and discounted back to arrive at a present value.  Below, we show our present value sum-of-the-parts should Golar place 5 FLNGs into service by 2020, which we believe is a reasonable base case scenario.  We have also taken down our tolling fee assumption in future years to reflect the potential for increased competition or lower returns should Golar have to pursue newbuilds over conversions.  As illustrated below, GLNG could trade to $115/share under a 5 FLNG scenario.

While we think the Company will eventually execute and place in operation 5 FLNGs by the end of 2020, we acknowledge that the market will discount FLNG until all contracts are firm and the initial FLNG vessel becomes operational. This is especially true in the current commodity price environment where LNG offtake agreements are likely to be few and far between.  As such, we have also evaluated Golar on a sum-of-the-parts basis applying ‘probability of success’ weightings to the 5 projects we expect to be operational by 2020.  We caution, however, that given Golar’s current pipeline of 20 different opportunities, any current project that fails to materialize is likely be replaced by a yet-to-be- identified project, rendering this exercise more academic than economic.  Nonetheless, we have applied ‘success probabilities’ based on our comfort level with the first 5 FLNG projects as follows:

• FLNG #1 Perenco:  95% success probability for first 2 trains; 50% probability for train 3; 25% probability for train 4

• FLNG #2 Ophir:  85% probability

• FLNG #3 West Africa: 70% probability

• FLNG #4 Rosneft or Canada: 40% probability

• FLNG #5 Rosneft or Canada: 40% probability

As illustrated above, on this risk-adjusted basis our sum-of-the-parts for Golar is $80-$85.  However, we would also note that Golar’s intention is to execute more than just five FLNG contracts, which would drive significantly more value than we have modeled under our scenarios.   

Lastly, on June 11, Stolt-Nielsen (SNI NO) announced they had made a ~$100MM investment in Golar (2.3% of the shares outstanding)  through open-market stock purchases as well as formed a 50/50 JV with Golar to pursue opportunities in small-scale LNG production and distribution.  The investment by SNI represented approximately 9% of their market cap and they paid ~$46 per share, or $3 per share higher than the current price.  At conferences since the investment, Stolt management has said they made the investment based on Golar's "large pipeline of opportunities in LNG" and their bullish view on the future of LNG seaborne demand and consumption.  While additional details around the JV were scare in the press release, Stolt specializes in targeting smaller customers who are off-the-grid (i.e., customers without access to gas pipelines who would otherwise use LNG as a cheaper and cleaner energy source) and recently started a subsidiary StoltLNGaz with this intention.  Stolt views their role in the JV as being able to facilitate offtake agreements to end customers via small scale LNG vessels.  We view the Stolt announcement positively based on the following:

1) A $100MM investment at $46/share is a vote of confidence in Golar's FLNG pipeline and management's ability to execute despite low oil prices.  Given the JV collaboration, it seems reasonable that Stolt had an “inside” look at Golar’s FLNG pipeline, progress and economics; however, we haven’t been able to confirm with Stolt.

2) The JV formation suggests that Golar may look to be more involved in the entirety of the LNG chain in the future, potentially capturing some of the upstream economics by acquiring and developing low cost, abandoned offshore gas fields.  Golar's hiring of Sir Frank Chapman (former BG Group CEO) as Chairman provides experience in upstream as well as offtake and distribution.

Key risks and concerns

• Lower oil puts pressure on LNG spot prices which threatens future LNG projects

Not surprisingly, this has been the #1 concern of the market with respect to Golar as historically LNG out of the Middle East has traded as an oil-linked product, averaging ~14.5% of Brent crude.  While the U.S. LNG export market breaks from this historical pattern by using a formula of Henry Hub + premium + liquefaction and transportation costs, the current fall in oil prices has resulted in oil-linked LNG pricing undercutting the U.S. LNG pricing model.  Given Golar’s earliest project starts in July 2017, we look to the Brent Oil futures curve to estimate future LNG prices.  At 14.5% of Brent, we estimate that LNG prices would average $9.30 / MMBtu in Asia.  As illustrated in our breakeven analysis above, we estimate that price would netback a profit of over $2.50/MMBtu to Perenco, or a ~85% IRR excluding the additional value realized from selling liquids domestically.  If prices weaken further, there is still a wide cushion of profitability to Perenco.  Additionally, we think it is likely that Perenco will announce a long-term offtake agreement with a large, publicly traded oil company in the near-term.  This should remove additional project risk and serve as both a catalyst for the stock and vote of confidence in Golar’s FLNG technology.

In summary, given the low cost nature of Golar’s FLNG projects and the expected outsized global growth in LNG consumption, we expect Golar’s FLNG projects to move forward as current LNG pricing is more than economically sufficient to deliver profits to all parties.  The market’s appropriate concern that high-cost land-based liquefaction projects are at risk in a low LNG price environment has been unfairly discounted against Golar’s stock price and low cost FLNG solution. As Golar continues executing on its FLNG pipeline, we expect its trading link with oil price movements will break.

• Construction and operational risk associated with a new technology

We are admittedly not shipyard engineers and acknowledge potential for unknown risk here; however, based on our conversations with more knowledgeable parties, we believe the risk is rather muted as the technology used on these FLNG conversions has been around for years and both key parties (Keppel and Black & Veatch) have taken an equity interest in the first vessel.  Additionally, Golar has included in excess of $100MM of contingencies in its estimates for construction costs and construction on the Hilli is ahead of schedule (nearly 50% complete) and on-budget.  

Based on our conversations, we believe the primary risk to Golar’s FLNG technology is not construction and technology risk but rather utilization risk, which we believe we and the Company have properly factored into EBITDA estimates.  Specifically, poor weather or shipping delays could delay unloading of LNG onto tankers which may limit the FLNGs ability to liquefy additional natural gas if storage on the vessel becomes constrained.  

• Will Golar need to raise equity and/or cut the dividend to fund FLNG?

The Company has been clear they don’t foresee a need to raise additional equity and liquidity sources remain plentiful.  In addition to cash on the balance sheet, Golar’s liquidity sources include:

1. $220MM loan to GMLP, the majority of which will be repaid in the second quarter.

2. The chartering and sale/drop-down of the FSRU Tundra will likely result in over $250MM of cash to Golar.

3. Golar has indicated they have received pre-delivery financing indications on its first FLNG for 70% of the construction cost, which could free up over $600MM of equity capital.

4. Golar has also changed its strategy on LNG tankers, indicating they are more likely to pursue long-term charters and sell the vessels to GMLP.  We believe this could free up an additional $100MM per vessel.

All in all, we think Golar can pull levers to generate ~$1.5BN of liquidity over the next 1-2 years.  Based on our liquidity forecast, unless Golar accelerates FLNG contracts (which would likely be seen as a positive by the market), these liquidity sources should bridge their financing needs and dividend shortfall (despite a weak LNG spot market resulting in dividend payouts in excess of cash flow, Golar has maintained its current dividend primarily due to the value creation they see in FLNG) to dropdown of their first FLNG to GMLP which will unleash significant cash proceeds.  

• The contracts aren’t even finalized yet and Golar’s counterparties are smaller E&P developers

We’ve heard this argument before and can only respond that if contracts were finalized, take-or-pay contracts, the stock would be trading much higher as the market would instantly account for the value of the cash flow stream.  Indeed, the long-term investment opportunity in Golar is driven by the execution of their FLNG opportunities, and we have a high degree of confidence in their success.    

Conclusion

Golar is not without risk.  With a nascent FLNG technology, there is material contract, technology and operational risk.    However, we believe the progress that Golar has made from initial concept has been substantial, and Golar is positioned at the forefront of standardizing a technology that can revolutionize the global LNG industry.   As additional FLNG contracts are executed and current FLNG contracts are finalized and vessels made operational, we believe Golar’s stock will reflect the value creation from their FLNG technology.  Upon successful execution of their FLNG pipeline, we believe there is the potential for enormous multi-year value creation for holders of Golar stock.  

Catalyst

• We expect a 3rd FLNG contract in the West Africa region will be announced by the end of 2015 and may come sooner.  We believe discussions on the 3rd FLNG are well advanced and startup would be as early as 2018.

• We expect details of a Perenco offtake agreement to emerge by the end of the year.  In addition to removing the economic risk of selling into the LNG spot market, we believe an offtake agreement by a well-established LNG buyer will provide validation of Golar’s FLNG technology.

• We expect final approval from SNH and the Cameroon government on the Perenco FLNG project to occur by the end of the third quarter and pre-delivery financing to be secured shortly thereafter.  

• We expect Ophir to announce debt financing for the Fortuna project this year (potentially before the end of the third quarter) and an equity partner around the end of the year.