Description

GLNG has been a tough investment historically given a nascent technology not easy to create and deploy, an overly aggressive chairman who has made questionable capital allocation decisions (mainly underwriting the Hilli vessel without a contract in hand, then achieving only a mid-teens return despite what could have taken the company under). That said, we believe, along with the general rout in levered SMID cap equities, most of this bad news is priced in while the company is about to achieve record earnings with better contracts on two (and likely all three) FLNG vessels. We believe it’s worth $50+ on $7-8 FCF/share in a couple years.

I won’t get into the secular case on LNG given all that’s out there but the Shell 2024 LNG Outlook is a good place to start and the positive for FLNG and Golar is that most of incremental demand comes from Asian regions while supply is mainly in the US and Qatar while its transition fuel use case further supports demand growth. McKinsey chart below on supply/demand. 

Golar and FLNG

The company has shifted focus away from their LNG carrier business and solely to FLNG as a service, in 2022, disposing of most of their LNG carriers (namely the Golar Seal, Golar Crystal, Golar Bear, Golar Frost, Golar Glacier, Golar Snow, Golar Kelvin and Golar Ice) and their FSRU, the Golar Tundra, for net consideration of $697.8 million and a gain on disposal of $113.2 million. From the 4Q23 earnings call, “We also own the LNG carrier Golar Arctic, which is a non-core to our FLNG focus, and we are currently considering options for the vessel, including charter opportunities or a potential sale”.

FLNG projects are a solution for stranded gas reserves (such as lean gas sourced from offshore fields) for which geographical, technical, and economic limitations restrict the ability to convert these gas reserves into LNG. These FLNG units can be redeployed to new opportunities after producing a field and offer a viable economic alternative to the traditional land-based projects. The liquefaction solution and quick execution model place liquefaction technology onboard an existing LNG carrier into a fully commissioned FLNG. There are currently eight FLNGs on the water, including Golar’s two that provide liquefaction as a service (FLNG Hilli and FLNG Gimi), five FLNGs being used to liquefy the resource holder’s own gas and one being used to liquefy gas to service a downstream portfolio. There is some secret sauce to essentially creating a complex chemical plant onboard a vessel with space limitations, pretreatment facilities to refine impurities, acid gases…etc but more information here, https://www.oil-gasportal.com/wp-content/uploads/2019/11/8.-Floating-LNG-FLNG-technical-challenges-and-future-trends.pdf.

Hilli

Hilli is the only FLNG currently operational and is contracted to Perenco (who just purchased 10% of GLNG stock) at 50% capacity; total capacity for the vessel is around 2.4 mtpa. GLNG said it had signed a framework agreement with a “potential customer” for a long-term opportunity that could utilize either the 2.4 mtpa FLNG Hilli or a 3.5 mtpa MARK 2 FLNG (more later on Mark 2) with a 12-20 year contract duration. YPF has said they expect to use an existing FLNG vessel beginning in 2027 (which Stifel believes to be Hilli) while Nigeria’s state oil company (NNPC) executed a Project Development Agreement (PDA) with Golar LNG for the deployment of a Floating Liquefied Natural Gas (LNG) offshore Niger Delta, Nigeria which we believe is likely for Mark 2 (more later) but could be Hilli. The company said they expect 6-12 months of retrofitting downtime for Hilli before the next project and $50-200m in capex costs. Location (climate differences, nuances to gas field) determine downtime and capex spend, hence a deployment around Africa likely means less downtime and capex than Argentina.

Base tolling fees – Under a tolling model, the owner/operator of the liquefaction facility does not take title to the gas or LNG as it is processed, liquefied, and stored. Instead, the tolling company receives a fee (typically $/MMBtu) for providing the tolling services. Tolling arrangements may be beneficial where the upstream participants prefer not to take FLNG construction and operating risk. Under the terms of the LTA (liquefaction tolling agreement) entered in connection with FLNG Hilli, the invoice and recognize base tolling fees up to the contracted annual base capacity so long as actual production is 95% of the contracted base capacity. This is a fixed tariff earned by the company and it also has derivatives contract with the counterparty which contributes to EBITDA

Brent linked fees – This reflects the MTM movements related to the changes in the fair value of the FLNG Hilli’s oil derivative instrument embedded in the LTA which is estimated using the discounted future cash flows of the additional payments due to the company because of brent linked crude oil prices moving above a contractual oil price floor of $60 per barrel for 1.2 mtpa out of 1.44 mtpa contracted capacity. It is largely driven by the volatility in the future Brent linked crude oil price curves. The floor price for these embedded derivatives is $60 and the cap price is $102. Therefore, any price movement below or above these price limit won’t lead to loss or gain respectively i.e., the company bear no downside risk to the movement of oil prices below $60. According to the company, $1 change in the price of brent crude per barrel lead to change in $2.7 million of annual EBITDA.

TTF linked fees – Similar to Brent linked fees, the company also has embedded gas derivative instrument for remaining of the 0.22 mtpa contracted capacity. This reflects the tolling fee in excess of the contractual floor rate, linked to TTF and the Euro/USD foreign exchange movements. For 2024, 50% of its TTF-linked production at a TTF price of $51.20/MMbtu, and the remaining 50% of its TTF-linked production at a TTF price of $70/Mmbtu, stated in report by Deutsche Bank dated 2022.11.16. There is no price limit to these instruments, $1 change in the price of TTF gas lead to change in $3.2 million of annua EBITDA. The company has entered commodity swaps to economically hedge their exposure to a portion of FLNG Hilli’s tolling fee that is linked to the TTF index, by swapping variable cash receipts that are linked to the TTF index for anticipated future production volumes with fixed payments from their TTF swap counterparties.

In 2023, base tolling fees contributed $132.2 million towards distributable adjusted EBITDA, where as brent linked and TTF linked fees contributed $65.2 million and $126.6 million towards distributable adjusted EBITDA.

Gimi

In November 2023, Gimi sailed from Singapore’s Seatrium shipyard and arrived at the GTA field offshore Mauritania and Senegal on January 10, 2024 then moved to the 20-year GTA hub location by BP. Gimi is awaiting connection to the feed gas pipeline and start of commissioning activities. First gas is expected in late 2024, subject to final completion of upstream activities and installation. The commissioning period is expected to be approximately six months, with anticipated COD thereafter. Pre-COD, the company expects contractual cash flows to be deferred on the balance sheet. COD triggers the start of the 20-year LOA term that unlocks the equivalent of around $3 billion of Adjusted EBITDA backlog to Golar and recognition of the contractual day rates.

Gimi has entered a 20 year lease and operate agreement (LOA) with BP Mauritania. Under this agreement, Gimi would receive fixed tolling fees with no embedded derivatives into it. In the 4Q23 earnings call, they said, “The commencement date triggers the start of the 20-year lease and operate agreement that unlocks the equivalent of around $3 billion of adjusted EBITDA backlog to Golar, or about $150 million of annual EBITDA”. In the meantime, Golar is earning some type of standby day rate, which will turn into a commissioning fee once commissioning work can commence

Mark 2

This FLNG design (compared to Hilli/Gimi Mark 1) has a nameplate capacity of up to 3.5 mtpa and is also based on the conversion of a Moss-type LNG carrier. The Mark II design involves the construction of a new mid-ship section containing the liquefaction equipment that can be inserted between the two sections of the carrier that has been ‘cut in half’. The higher maximum nameplate capacity is possible because the mid-ship addition also allows for a more efficient configuration of the liquefaction equipment. This modularized approach to the conversion reduces the time required for conversion, delivery and commissioning of the Mark II design compared to their other two FLNG designs. This approach also increases the number of shipyards and fabricators that can execute the conversion in order to reduce the construction cost per ton of capacity delivered, increase the number of yard slots available and secure more attractive payment terms. The Fuji LNG is the first Mark II design.

From 3Q23 earnings call, “That takes the full commitment or current commitment on Mark II to around $400 million. And then the incremental fixed upon FID would then be approximately $1.6 billion, bringing total CapEx to around $2 billion”

Cost Curve

Repeating what the company has discussed, see below on their purported economics vs. onshore LNG but I take all they say with a grain of salt since so much of their economics is determined by feedgas composition, the tolls, capacity utilization of the vessel, commodity linked earnings, capex costs, downtime…etc, ie, I think given the concentration of revenue, it makes more sense to value each contract on EBITDA-capex vs. FLNG cost curves. That said, this helps us to see that FLNG is an economically viable solution. 

Taxes

On December 27, 2023, Bermuda enacted the Corporate Income Tax Act (the “CIT Act”) under which, for taxable years beginning on or after January 1, 2025, Bermuda will impose a 15% corporate income tax on Bermuda organized entities and businesses that are constituent parts of multinational groups with annual revenue of at least €750 million (approximately $828 million as of December 31, 2023) for two out of the last four fiscal years. While GLNG potentially has an exemption here, we assume they become a 15% taxpayer in 2028/2029.

NNPC Deal

As stated in multiple reports, the PDA outlines the monetization plan that will utilize approximately 400-500 mmscf/d and produce LNG, LPG and condensate. We have estimated utilized contract in terms of Mtpa (million tons per annum) using the given information of 400-500 mmscf/d (million standard cubic feet per day) which comes to ~3.282 mtpa, way above the total capacity of FLNG Hilli (2.4 mtpa), thus the contracted FLNG vessel with NNPC is likely the MARK II FLNG with total capacity of 3.5 mtpa, the utilization rate for the MARK II FLNG comes to ~93.7% (3.282/3.5 mtpa). "I think we wouldn't talk to a new contract if it was less than at least 90% utilization. So I think it's fair to assume that you will have at least a pro rata increase in the base rates that you see today" said Karl at 1Q24 earnings call. Based on our estimates, the MARK II FLNG would generate annualized base tolling fee of ~$559 million and annualized adjusted EBITDA of ~$400+ million (before the impact of derivative instruments).

Free Cash Flow and Price Target

We assume a Mark 2 loan with similar terms to the Gimi Facility (duration, balloon payment, interest rate), $100m in maintenance capex along the lines of depreciation, tax rates previously discussed and EBITDA summed up from the individual vessel economics shown above.

What’s it worth? Clearly, it’s levered, has the risk of just a few assets, an aggressive Chairman who could keep betting free cash flow on the new new thing…etc but even at 7-8x free cash flow (contracted with BP as a counterparty on one vessel), it’s likely worth $50+ from here.

Where could we be conservative? Likely in our Mark 2 assumptions and our maintenance capex numbers. Also, additional upside from commodity-linked exposures.

While I mentioned Perenco, I’d add that their taking a stake in GLNG is very positive since they know the opportunity set in West Africa extremely well. 

Catalyst

FID on Mark 2, continued free cash flow generation with contracted revenue, dividends, buybacks