Santos Shifts From Growth To Shareholder Return

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Santos will shift focus from growth for growth’s sake to prioritising shareholder returns from 2026. Brokers line up with Buy ratings.

-Santos to slow growth, increase dividends
-Barossa and Pikka to be commissioned ahead of the shift
-Many growth options remain, but not all will proceed
-Following upgrades, brokers universally rate the stock a Buy

Energy producer Santos ((STO)) turned 70 years old this year. South Australia Northern Territory Oil Search incorporated in 1954 as Santos and listed on the stock exchange in 1970.

In more recent times, a key point of differentiation between Santos and its larger local peer Woodside Energy ((WDS)) has been that Santos held a stronger growth profile, Morgans notes, while Woodside enjoyed better earnings quality from its concentrated portfolio of high-quality assets.

That’s about to change.

The focus of Santos’ 2024 annual investor briefing was the planned introduction of a new capital framework that would slow growth and increase shareholder returns. Macquarie describes it as a simplified and more disciplined framework, while Morgan Stanley sees the shift as positive, improving comparability and signalling smoother returns from Santos’ growth profile.

It will apply from the second half of 2026 when growth projects are commissioned at Barossa gas (offshore Northern Territory) in the September quarter 2025 and Pikka oil (Alaska) in the first half of 2026.

The new framework will return more cash to shareholders than the current policy and confirms Santos will prioritise shareholder returns over committing to its available growth opportunities, including Papua LNG, backfill opportunities into PNG LNG, Dorado (offshore WA), Narrabri (NSW) & Beetaloo (offshore NT).

Higher Payout

The new framework will return at least 60% of “all-in” free cash flow (actual free cash flow) in dividends to shareholders from the second half 2026 versus the current setting to pay out at least 40% of free cash flow excluding major growth capex. When gearing is below Santos’ 15-25% target range, the company will return 100% of free cash flow via dividends and/or buybacks.

The production target to 2030 of 100-140mmboe has been reduced to 100-120mmboe as a result.

Under the framework, new project investment will increasingly become the swing factor, Macquarie points out. Traditionally, the opposite has been true when production declines necessitated large financial investment decisions (FID). Santos will likely be slower and more selective to “FID” new projects.

From 2026, Santos will put in place a capital ceiling that restricts future capex to an appropriate level (stress tested at lower oil prices), and effectively avoid a situation in which excessive growth capex on multiple projects is overlapping at the same time, Macquarie notes. The level of the ceiling has not been set yet.

Management is nonetheless confident of delivering Barossa and Pikka on time, before the new framework kicks in.

Santos has also set itself a long-range target of 14mtpa of third-party carbon capture & storage (CCS) by 2040, noting estimated capacities of some 20mtpa at Moomba (SA), 10mtpa at Bayu Undan and 5mtpa at Reindeer (WA), reducing Scope 3 emissions by around -50% from 2023 levels.

Some global peers target greater than a 15% return on this style of investment and Macquarie expects Santos should be able to do similarly on toll plus exposure to carbon pricing over time.

UBS notes Moomba CCS safely commissioned and already having sequestered more than 150kt of /CO2, hence Santos’ Energy Solutions division can now deliver material value in the broker’s view. UBS believes Santos retains the option to sell down a stake in this division and bring forward cash flows.

The investor briefing saw no change to 2024 guidance while 2025 guidance will be released at the December quarter update in January next year.

Management flagged an extensive cost-out initiative to commence in 2025 and set a target for unit production costs at around $7/boe in 2027 — below a prior consensus estimate of $8.50/boe — supporting higher earnings per share from beyond 2026.

How to Grow?

Santos’ new framework does not imply the company will halt growth altogether, rather it will prioritise returns over growth. Growth will continue, with preference given to LNG backfill opportunities (new nearby gas wells to feed existing operations).

Santos’ new CFO stated its new framework was designed to ensure shareholder returns at least as much as 2024 levels at conservative commodity prices. Jarden’s analysis concludes Santos can invest up to -$750m per annum in major new unsanctioned growth projects, in addition to around -$1.4bn pa in sustaining capex, and meet this commitment.

But the question is, which projects?

Capital investment will preference LNG backfill, such as Gladstone LNG (Qld) and Cooper Basin (Qld) drilling, as well as PNG backfill development, ahead of other growth investment. Interestingly, notes Jarden, Santos stated all unsanctioned growth will compete equally for funds, meaning not all unsanctioned growth (Dorado, Narrabri, Papua LNG, Bayu Undan CCS, WA CCS and Pikka Phase 2) will proceed.

Jarden’s view is Papua LNG, Dorado Phase 1 and Pikka Phase 2 are the most likely to proceed, with Bayu Undan CCS more likely to move ahead than WA CCS, albeit delayed further.

Management made it clear backfilling existing LNG infrastructure was the best way it can add value, and that is something Morgans “wholeheartedly” agrees with. The difficulty is in getting there, this broker notes, with GLNG upstream due to exhaust its well inventory by the end of this decade and the Cooper Basin requiring significant innovation to unlock the Patchawarra, Granite Wash and deep coals to the north.

GLNG represents the larger hurdle to cross, Morgans suggests. While innovation has unlocked a lot more molecules on much better economics than the broker could have ever hoped over the last decade from GLNG’s coal-seam gas (CSG) operations, innovation cannot manufacture more coals.

Santos’ answer appears to be to push forward with new gas from Beetaloo/McArthur River (NT) — an “exciting” growth project in years past that ended up taking a backseat to the heavy balance sheet load created by simultaneously developing Barossa and Pikka.

Although over the coming years Santos will have the Papua development in PNG and likely Pikka Stage 2, which could ultimately see Beetaloo slip further back in the timeline under management’s more moderate view on growth, Morgans assumes. This broker expects Santos to commercialise at least a couple of the resource plays in the Cooper Basin and maintain its long-held track record of outperforming on 2P (proven & probable) reserves.

Santos’ focus on its backfill strategy also puts some greenfield projects under increased doubt, Morgans suggests, such as Dorado.

Citi is similarly less confident on a timely FID at Dorado and hence pushes the timing out to 2027 (from 2026) and removes Dorado from its financial forecasts.

UBS has pushed out the Dorado development to beyond 2030 with only Papua LNG and modest backfill opportunities in PNG LNG from the unsanctioned portfolio in the broker’s forecast to 2030. While this reduces estimated valuation slightly, it allows for much stronger dividends and free cash flow from 2026-30.

At the briefing Santos provided a production chart of PNG LNG production split into 2P reserves and unsanctioned backfill, which were both largely in line with Citi’s estimates, having materially increased the decline rate of the 2P reserve production profile following the 2023 strategy day. To maintain higher production rates, Citi had to bring forward capex on the unsanctioned growth.

Citi’s concern is that 2P reserves might be downgraded, and that the capex intensity of PNG LNG is greater than assumed in the consensus forecast. But with the share price under $7 per share, the broker does get the sense there is some margin of safety in the share price to accommodate these risks.

Targets Down, Ratings Up

The reduction in Santos’ production growth guidance, with increased dividends not due until after 2026, has led most brokers to slightly trim their 12-month target prices. The consensus target among the six brokers monitored daily by FNArena covering Santos falls to $8.04 from $8.21, in a range from $7.40 (Morgans) to $8.70 (Macquarie).

Citi’s analysis suggests Santos can indeed grow further at a 60% payout ratio, but in the absence of growth beyond Pikka-2 and PNG backfill, the company could afford up to around a 75% payout ratio before cannibalising the business ahead of more meaningful decline in the mid-2030s. With the share price under $7, Citi finds this opportunity compelling and upgrades to Buy from Neutral.

A key drag on Morgans’ investment view on Santos remains the unsustainable premium at which the broker sees it trading versus Woodside, although this gap has been closing. Looking at the next twelve months, Morgans sees Santos trading on a 2025 forward multiple of 5.0x earnings versus Woodside on 4.1x. With that said, it is impossible for Morgans to ignore the recent selling pressure which has pushed Santos to a discount relative to the broker’s updated target price.

Morgans sees this selling as fuelled by a combination of top-down fears (primarily on the oil price) and some key asset risks (GLNG depletion, Papua hurdles, Cooper fatigue). While each of these medium/long-term risks are reasonable hurdles, the broker believes the selling pressure has been enough to push Santos into “accumulate” territory. Morgans thus upgrades to Add from Hold.

With an inflection point in production and free cash after 2026, and numerous value realisation opportunities via asset sales or development of its portfolio of unsanctioned growth, Santos is differentiated from its peers and remains UBS’ preferred Australian energy exposure. UBS retains Buy.

Ord Minnett’s forecasts already implied a dividend yield of 10-12% in the 2026-28 out-years, and the broker notes its conviction is stronger than that of the broader market, which is expecting a yield of only 6-7%. In Ord Minnett’s view, consensus is under-estimating the company’s ability to generate free cash flow and management’s determination to improve shareholder returns. Ord Minnett retains Buy.

Precise settings of the new capital framework are not yet set, however it is clear to Macquarie Santos won’t be growing for growth’s sake — rather it will prioritise shareholder returns, and some projects simply have to wait. This should appeal to new investors, Macquarie suggests, in retaining Outperform.

Ahead of the 2026 transition, Morgan Stanley estimates Santos will achieve a 2025 free cash flow yield of 7%, which the broker sees as the most attractive risk-adjusted return in its Australian upstream stock coverage. Morgan Stanley sticks with Overweight.

That leaves all six above brokers now with Buy or equivalent ratings.

Beyond that group, Jarden maintains its Overweight rating with a $7.85 target price, believing the end of the material investment phase and the potential for higher shareholder returns is in sight.

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