Small Caps | Oct 10 2022
This story features KAROON ENERGY LIMITED. For more info SHARE ANALYSIS: KAR
Brokers ratchet target prices higher on a positive outlook for Karoon Energy.
-Brokers generally set higher target prices for Karoon Energy
-Confidence rises on increased support for the industry in Brazil
-Intervention plan at Bauna lifts production
-Morgans expects further upside from the Patola oil field
By Mark Woodruff
The average target price set by brokers in the FNArena database for oil and gas producer Karoon Energy ((KAR)) has increased by over 11% to $2.98 this month on recent announcements. This target still suggests around 32% upside to the latest share price.
The company’s key producing asset is the Bauna oil field, offshore from Brazil in the southern Santos basin. From November 2020, when Karoon acquired and assumed ownership, through to June 30 this year, the asset has produced 7.8m barrels of oil and generated US$522m in cash revenue.
Management expects improvements from an intervention program at Bauna and development of the adjacent Patola oil field will lead to a doubling of production rates compared to FY22.
Morgans has greater confidence in the Brazilian operations now the national petroleum regulator has offered a discount on royalties for the Bauna project. It's thought this move demonstrates wider support for the industry.
The Add-rated broker estimates the discount (partially offset by a corporate tax rise) will increase the company's free cash flow profile and lifts its target price to $3.95 from $3.60.
Only last week, Morgans noted Karoon’s shares were languishing near recent lows, despite the economic backdrop, and raised its target to $3.60 from $3.20.
Morgans was surprised by the discounted share price as the recently completed intervention plan at Bauna had already unlocked growth at the top-end of management guidance. As a result, the broker had raised its FY23 production forecast at Bauna to 22.2kbopd from 20.9kbopd.
While the upside, and de-risking, of the intervention program is supportive of Morgans conviction on Karoon, the main upside risk is likely to emanate from the Patola oil field.
Just like Morgans, Macquarie has twice raised its target price for Karoon Energy in the last week.
This Outperform-rated broker initially increased its target by 14% to $2.90 after raising its FY23-25 EPS forecasts by 25%, 5% and 4%, respectively. These changes were made as a result of the stronger results from the Bauna 3-well intervention program, and a slightly higher contribution from Patola.
Macquarie's target now rises to $3.00 from $2.90 after the analyst raises EPS forecasts a further 4% over FY23-25, after incorporating the new tiered royalty structure agreed with the Brazilian oil regulator.
Regardless of the outcome for the upcoming Brazilian elections, the broker now sees a strong level of support for the energy industry in Brazil.
While Morgan Stanley has not yet refreshed its research for the new royalty structure, Karoon is among stocks least preferred in its coverage of the Australian Energy sector, due to relative uncertainty and valuation.
Last week, this broker reduced its target prices across the board for the sector on lower energy price forecasts resulting from slowing global oil demand arising from a softer economic outlook.
While Morgan Stanley retained its Equal-weight rating, the target for Karoon was reduced to $1.98 from $2.25.
Barrenjoey, not an FNArena database broker, raises its target price for Karoon to $2.32 from $2.17 on the equal effects of higher production and the lower royalty expense.
In recognition of a greater than 50% share price rally since July, the broker lowers its rating to Neutral from Overweight on valuation, though remains positive on the outlook. Upside may arise from a de-risking of the Neon-Goia oil fields in Brazil or via further M&A.
Upside scenarios from the Patola oil field
Management guidance for Patola’s 2-well development of 10kbopd will add meaningfully to existing group production of 22kbopd, observes Morgans.
The broker even sees potential for the wells to outpace this guidance and deliver production more comparable to the original Bauna wells (in the range of 7-14kbopd per well).
The analyst tests a couple (of what it considers) realistic scenarios, whereby production reaches 14kbopd and 20kbopd and arrives at valuations for Karoon Energy of $4.02 and $4.70, respectively.
While Morgans retains its base case forecast of 10kbopd, the scenarios support its existing positive conviction on the stock.
Moreover, early this month, Macquarie noted the “Brazil discount” applied to Karoon Energy is unjustified, as the industry structure is attractive (and has been stable), and the company’s operations are of a high quality.
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