Interview: Neptune champions its diversity
With assets in Europe, North Africa and Asia-Pacific, the London-based firm sees value in its broad international portfolio
Neptune Energy, born out of an acquisition of the upstream assets of French utility Engie, is comfortably the most internationally diversified of the new North Sea entrants backed by private equity (PE). And its founder sees that as a key part of its value proposition.
The firm, which is backed by the China Investment Corporation, US PE heavyweight Carlyle and Luxembourg-headquartered CVC Capital Partners, followed up the Engie deal by swooping for the Norwegian continental shelf (NCS) assets of German midstream from VNG. And, in August, it snapped up stakes owned by US independent Apache in the Seagull and Isabella projects on the UK continental shelf.
Sam Laidlaw, who spent 20 years with US independent Hess, rising to president and COO, but is perhaps best known for his stint as CEO of UK utility Centrica, is Neptune's executive chairman. He recently spoke to Petroleum Economist editor-in-chief Peter Ramsay. Edited highlights follow.
PR: Do you agree that PE investment in the UKCS/NCS is a positive for the basin?
SL: I think it's a good thing in a number of respects. Firstly, given that the majors are withdrawing from the North Sea and—particularly the Americans and also the Europeans, as you have seen with BP—focusing on North American shale, and the fact that the utilities have largely withdrawn from the upstream gas and oil business, it's very important that new sources of capital come in. But also, it's on the nature of PE capital to actually be pretty long-term relative to some long-only institutional investors who may well only be in the stock for a year or two. At least with PE, you generally have a defined time frame, and you have fairly patient capital that is prepared to take some short-term reduction in earnings in order to restructure business to improve their profitability. That is more difficult for management in a public environment where quarterly earnings are scrutinised. It means you have got slightly better risk appetite, you can afford to take a slightly longer view. So, it's good that it's a new source capital, but it's also the right source of capital for what the industry needs.
There is a general recognition that we need to find ways of working smarter and bringing new technology of the next phase of the North Sea's development and that is the sort of thing that PE does well. Having said that, there is a wide range of PE just as there is a wide range of public markets. There are some small companies that actually use a lot of leverage—the Neptune model is very different from that, we have three very large institutional investors, one from the US, one from Europe and one from China, all of whom take a long-term view. As you saw from our third quarter numbers, we operate at a much lower level of leverage.
PR: When you were looking to set up Neptune, what motivated you to go down the PE route?
SL: I could certainly see that there was a gap in the market and an investment requirement for oil and gas outside North America that was not going to be immediately filled by public investors. There was no company at the time—a number of companies have been formed since, that was three years ago—which was pursuing international E&P at scale in diverse geographies. I would suggest that we are still one of the very few that are doing it; there are a number of UK or Norwegian specialists, there are one or two African specialists, but there are not many who can offer the range of geographic diversity and also the gas as well as oil focus. We have seen in the last couple of months, with the great volatility in the oil price, the gas market has held up pretty well and that provides another form of diversification.
PR: On a personal note, what are the advantages of the current role compared to your previous position at a public firm that attracted greater media attention?
SL: The biggest difference is around being a B-2-B business rather than a B-2-C business. Obviously, we have customers too, but they are informed, sophisticated buyers; they are the largest oil and gas companies and utilities, who understand our business and therefore it is a different sort of sort of negotiation; and it is anyway a commoditised business.
The scrutiny of selling energy to the residential customer—particularly after the global financial crisis when everybody's income is very stretched and there had not been an increase in real income for many people—that's a very tough thing, especially when you also have to introduce to the residential customer the cost of decarbonisation, which gets borne by the consumer. That's a very different proposition to selling the base commodity and that is probably the biggest difference in terms of media attention.
As for the investor scrutiny, if you are running a big public company, they demand and expect continued improvement in earnings per share. In a volatile commodity market, that can be difficult. If improving earnings per shares translates into profits which some stakeholders think are unreasonably high, that can be difficult too. That is not a problem we have at Neptune.
PR: Do you feel that you've 'come home' to the E&P sector?
SL: The E&P business, partly because it has the excitement of looking for, and hopefully finding, hydrocarbons, the 'treasure hunt', is always an interesting business. Particularly with the geographic diversity that we've got at Neptune, you may not be managing customers, but you have to manage the government relationships that are a very important part of building a successful international E&P business. We are privileged to operate in the countries that we do, but that is only through having the licences to operate from government. Getting our social and environmental footprint right is going to become more and more important. So, in a sense [the return to E&P] is very comfortable because it is something I have done before, but with a different group of shareholders at a different time, and where I think applying technology is going to be a key to driving further efficiencies too.
PR: What is the value-add proposition for Neptune?
SL: We are trying, and I think well on the way, to grow a business in value terms, and the value will come through successful reserve replacement, reducing costs and improving efficiency. We are currently focused on gas-thinking about the longer term, about the positioning for the low carbon future, gas will be an important part of the mix-but not solely on gas, and we are internationally diverse.
There have been some suggestions that we have a particular sized target in mind, but, if we really want to be leading in the field, for our investor group it is all about having the best-in-class safety performance, the lowest costs and the greatest efficiencies, but also about superior reserve replacement. That is how we will measure success, rather than just size per se.
PR: Will Neptune remain more weighted towards gas, or is there an ambition to grow oil's share of the production?
SL: It may change a little bit in the short-term, we could add some oil. But, in the long-term, as we think about the transition to the low carbon future, gas is going to be an increasingly important part of the mix. We obviously have a very big gas project in Touat coming on in Algeria next year; I think that will be an important part of the story. Some of our gas goes to LNG, such as the gas in Indonesia. We also have a large resource to develop in Australia, in the Bonaparte Basin.
PR: Neptune certainly stands out from the other PE-backed North Sea players in having a portfolio that extends beyond the UK and Norway.
SL: We are the largest offshore operator in the Netherlands with some 35 platforms so that is a pretty significant business, obviously more mature than the UK. The trick there is to sustain production. In Germany, we are the number three producer and, even in an area that some people might regard as mature, we have some exploration prospectivity. So it is diverse even in Europe. And then there are the Algerian, Egyptian, Indonesian and Australian positions, on which we want to build because, at the end of the day, no matter how optimistic one may be about the remaining potential of the UKCS, you are fighting inexorable geological decline and we need to move beyond that.
PR: Should we expect the international share of the business to grow, based on its larger reserve base relative to the European assets?
SL: If we take a five-year view, I still think we will see the North Sea being the majority of the business, but probably not at the 70pc level.
PR: There are assets out there. Is more M&A an option?
SL: If you just look at liquidity within our existing facilities, we have £1.35bn. But, on top of that, we have a $2bn accordion feature on our revolver and potentially investors could put more equity in. We would only want to do either of those if it was a really good opportunity. And we have also been clear that we do not want to run an overly leveraged model. Equally, if we buy businesses that are currently generating cashflow and earnings, they will support a certain amount of debt themselves, So, there is no hard stop—it is all a question of the quality of the opportunities and we are only going to look at things that are accretive to the overall Neptune business.
We do not have to do anything, because we have a pretty good story now, at least for the short-to-medium-term, with the Fenja, Cara and P1, and Njord developments in Norway, the Seagull development, and Touat coming on stream next year. We have a pretty strong pipeline of growth opportunities. We will obviously build out the exploration capability for the longer-term opportunities.
The VNG deal was an example of something we really liked and that we thought was a really good fit-operationally with our Njord interest, but also, we liked the people and the capabilities it brought, and it was a sub-sea development which is similar to what we are doing with Cara and P1. There were all sorts of operational synergies and some tax synergies as well, so that made good sense, as, similarly, did the Seagull deal. So, if there are things that represent a good fit and really good value, absolutely we will pursue them, but we do not have to do them. That is a good place to be
PR: How much of an issue is decommissioning while building a portfolio that includes very mature assets?
SL: We have been very careful to buy assets and businesses that are long life; or are sub-sea developments that have quite limited decommissioning exposure; or are floating facilities that can be taken away at the end of their life. If you look at our total decommissioning liability in contrast to a number of our peers, it would be, as a percentage of overall capital investment, much lower.
The work we are doing in the Netherlands is relatively modest cost—it's not inconsequential as we have a number of small platforms to remove, but it's relatively straightforward compared to undertaking something like Shell have been doing with Brent or like at other platforms in the central or northern North Sea. In Norway, our single largest asset is the Gjoa field, which is a floating production facility and very modern. I think with the combination of Cara and P1 and the Nova development, it will be there into the late 2030s if not beyond.
PR: What can you say around the exit strategy and exit timing of your investors?
SL: We have only just got in! We have owned the business for nine months or so, and we are still sorting it out, there is quite a lot to do and further to go, particularly in terms of turning contingent resources into reserves. We will continue to put the necessary management systems processes and technologies in place.
At some point, but we are not going to do this against the clock—when we think the business is ready—we will take it to the public market. But we are not a rush to do that, there is not a race on here, it's going to be a case of value and market conditions. We need to make sure the business is in really good shape, not just for the initial IPO. We want to make sure that it has got good growth trajectory beyond the IPO so that new investors have got an interesting and exciting story on which we can deliver for the next five years. That is also important.
PR: Is it definitely an IPO rather than a trade sale?
SL: Absolutely, that is the plan. And I think that this business, given that it's very cost competitive with an operating cost of $10/bl, with long-life reserves, with some good growth prospects, with the diversity it has, with limited decommissioning exposure, is well-positioned for an IPO when the time comes. And I also think that there is investor appetite. Of course, to some extent, that appetite comes and goes with the commodity price. But there are limited opportunities for those institutional investors who want to put a significant amount of capital to work in the international upstream sector. There are regional specialists, but there is not really another gas-focused international E&P company.
PR: Do you have any concerns over whether investors will lose appetite if too many of the current PE-backed North Sea vehicle look to IPO in quick succession and the stock market indexes see a surge in E&P exposure?
SL: We will see. It's very early days to be thinking about this. but certainly, looking at what we have seen in North America, investors there are returning. We are picking up signs of enthusiasm here and that the generalists are returning [to E&P]. I think what is different is that the proposition has to include an element of yield. You see this in mining as well, investors are not just going to buy a growth story, they want current returns as well in the form of dividend. I think if you can offer that on a sustainable basis, as well as decent levels of growth, then I think the appetite will be there.