Description

Overview

Oslo listed E&P Panoro Energy (PEN NO) has a stake in the Petrobras operated Manati gas project, which operates under a take-or-pay contract with escalation linked to Brazilian inflation, that more than covers the entire Panoro enterprise value.  Panoro’s main development asset in Brazil and its suite of exploration assets in Brazil, Congo and Gabon provide substantial additional upside.  There is a potential catalyst to unlock the value embedded wtihin the portfolio in the form of Panoro’s recent announcement that it has hired a banker to sell its West African exploration assets.  This will likely highlight the fact that investors are currently not paying for anything other than the Manati cash flows.

Panoro was created in a demerger out of Norse Energy (NEC NO) in June 2010 with Panoro assuming ownership of Norse’s Brazilian assets, including Manati.  Panoro subsequently merged with Pan-Petroleum, which added the West African exploration portfolio.  The market cap is $150mm.  There is $105mm worth of 12% bonds due 11/2018 that have a first lien on the Manati asset.  The bonds trade around 102 to yield 12%, which given the substantial asset coverage provided by Manati is far too high of a yield in my opinion.  I own these bonds and view them as an attractive risk/reward.  An analysis of Manati when underwriting the first lien bonds is what led me to conclude that the stock offers an even better risk/reward.  There is $40mm drawn on a revolver and cash is $105mm so total net debt including the secured bonds is only $40mm and the enterprise value is $190mm.

Manati

Panoro’s main asset is a 10% stake in the Manati gas project in the Camamu Almeda Basin in the shallow waters (35 meters) approximately 25 km offshore from Bahia, Brazil.  Manati is operated by 35% owner Petrobras and is the largest non-associated gas field in Brazil meaning that gas is not merely generated as a byproduct of oil/liquids production.  Manati consists of a gas field, offshore processing platform, sub-sea pipeline system and onshore gas treatment plant.  The field began production in 2007 and after experiencing some mechanical problems with the risers in 2011 that led to some unplanned maintenance downtime, the field is back to its normal production level of over 200 million cubic feet of gas per day (gross).  On an oil equivalent basis and net to Panoro's interest, this is about 4,100 boe/d.  Petrobras expects to produce at this level through 2016 before seeing gradual declines over the subsequent 10 years.

Gas produced from Manati is sold to Petrobras for use to supply a local Petrobras owned refinery, power station and nitrogen fertilizer plant under a fixed volume and inflation adjusted take-or-pay contract denominated in Brazilian Reais.  While the gas sales contract covers an original volume of 810 Bcf, Panoro and the other minority partners QGEP (45%) and Brasoil (10%) are in negotiations with Petrobras to increase the offtake volumes to 1.1 Tcf.  While there are no guarantees (and this isn’t hugely impactful on a present value basis) it is anticipated that the parties will continue the contract as long as they can produce from Manati at an economic rate as Petrobras owns the local refinery that uses Manati gas as a feedstock and the Manati infrastructure and processing costs are sunk. 

At the plateau level of production and at the price of $9.12 per mmbtu that was in effect during the first quarter, the net cash flow after royalties and field level taxes is about $35 million.  Using the production profile forecast by Petrobras and an 8% discount rate, which I believe is appropriate if not conservative given that this inflation adjusted take-or-pay contract on a stabilized, producing asset is about as low risk as it gets in the E&P business, the NPV of Panoro’s stake is worth $240mm, well in excess of the $190mm enterprise value.  I believe that this figure will prove too low as Manati and adjacent discoveries (such as Camarao Norte just to the south of Manati) that can be processed through the same gas plant will extend out the period of time during which the field produces at the 200 mm cubic feet rate well beyond 2016. 

I recognize that I haven’t gone through all of the details needed to model the cash flows from Manati.  It is conceptually simple but mechanically involved because of the nature of the pricing mechanism and fiscal terms (royalty and tax rates).  For anyone interested in more information before settling in to build out a model of their own, several sell side analysts including Tudor Pickering and Pareto have decent DCF templates for Manati.  Also the company’s quarterly PowerPoint presentation provides most of the necessary information.  Finally, QGEP Participacoes SA is public in Brazil (QGEP3 BZ) and provides good additional information on Manati since its 45% stake represents a large portion of the company’s value.

Other Brazilian Assets

In addition to its stake in Manati, Panoro holds a series of working interests ranging from 35% to 65% in the BS-3 area, a cluster of five oil and gas discoveries in the southern Santos Basin, offshore Brazil.  Petrobras is the operator and is currently evaluating the best means and timing of bringing one or more of the discoveries into production.  There are several different hydrocarbon bearing sands at play here and Petrobras is figuring out the most effective development strategy.  The so called B1 reservoir likely contains at least 1 billion barrels of original oil in place but its commerciality is uncertain due to low permeability.  The B2/B3 zones contain higher quality, conventional sands but likely host "only" 100 mm barrels of oil equivalent, which nets to 37mm boe for Panoro.  Given Petrobras size, the B1 and other high-risk / high-reward plays are more interesting even though 37mm commercial barrels of oil  woudl be a windfall for a company the sized of Panoro.   Despite the more modest size of teh B2/B3, Petrobras is still interested in bringing these zones into production. The key is figuring out what to do with the associated gas, which represents between 15 to 20% of the hydrocarbons in place but cannot be flared or re-injected in this region.  It is likely that if Petrobras seeks to tie all of the BS-3 area fields together (perhaps after figuring out a means to economically drill and complete wells in teh B1 sandss) and operate using a single FPSO, then the capex attributable to Panoro’s interest would be too large (upwards of $400mm) causing it to sell or farm down its holdings.  Using a reasonable $7 per boe and a 50% commercialization haircut yields an estimated value of $130mm or 3.3 NOK per Panoro share.

Also in Brazil, Panoro has a 15% working interest on a fully carried basis (i.e. no cash burn) in a 3 well exploration campaign operated by Vanco targeting large Santos Basin prospects.  Each targets 300 million barrel type discoveries.  The geologic chance of success in these types of plays is on the order of 20%, with another 50% risk that a discovery is made but is not commercial due to an unfavorabel oil vs. gas mix or difficult reservoir conditions.  So you are left with a 10% chance of commercial success on 3 independent/unrelated 300mm barrel targets (at 15% working interest) which is 4.5mm barrels each or 13.5mm total barrels.  At $5 per boe that is $68mm or 1.7 NOK per Panoro share.

West African Assets

Recognizing that it is recieving no credit in the market for anything other than Manati, Panoro recently hired FirstEnergy Capital to explore the sale of its West African assets.  There is a lot to look at in this portfolio, ranging from lower risk discoveries in dicey countries to higher risk exploration in safer ones.  I won’t go through the entire portfolio in detail (the company presentation does a decent job laying it out) but will highlight two cases were non-zero value is easily identifiable. 

Panoro has a 20% interest in a large oil resource play in the Mengo-Kundji-Bindi (MKB) field onshore Congo-Brazzaville.  The field was operated by Elf and produced oil for 12 years until 1992 when it was shut in as prices weakened.  The project is currently operated by SNPC, the national oil company.  There is an estimated 1 billion of original oil still in place and a pilot program is underway to evaluate the likely secondary recovery factor using modern, multi-stage fracture stimulation as well as eventually, tertiary recovery using water flood.  The pilot wells are currently testing at good rates but it is too soon to declare the project commercial across the areal extent of the field.  If the partners believe that a recovery factor of 8 to 10% is achievable, they will proceed towards a staged development with a targeted peak field level (gross) rate of 6,000 barrels per day.  I would expect that if the pilot test continues to demonstrate good rates in flow tests, that Eni or Total, who are both active in the area, would buy Panoro’s interest and become SNPC's partner.

In Gabon, Panoro has a one-third stake alongside operator Harvest Natural Resources in the Dussafu exploration license in the shallow waters offshore Gabon.  To date there has been between 10 and 20 million barrels (gross) discovered in two targeted formations in the pre-salt sands.  The reservoir quality is very high but the net pay thicknesses were lower than anticipated.  Therefore, the thought is that at least one more similar sized discovery is needed in order to justify the development expense to bring the field into production.  There are several attractive prospects that HNR will drill in an attempt to scale up the discoveries to critical mass.   As the finding and developing costs are unknown at this point, it is too early to put multiples even on the discovered barrels, though clearly there is some option value at a minimum in the Dussafu license.

Conclusion

Catalyst