InterOil Corporation's CEO Discusses Q4 2013 Results - Earnings Call Transcript

| About: InterOil Corporation (IOC)

InterOil Corporation (NYSE:IOC)

Q4 2013 Earnings Conference Call

March 31, 2014, 8:30 a.m. ET

Executives

Wayne Andrews - Investor Relations

Michael Hession - CEO

Donald Spector - CFO

Analysts

Evan Calio - Morgan Stanley

Chris McDougall - Westlake Securities

Pavel Molchanov - Raymond James

[Atul Murthy] - CVP Capital

Operator

Ladies and gentlemen, good morning. Thank you for standing by and welcome to InterOil’s fourth quarter earnings conference call. [Operator instructions.] I’d turn the conference over to our host, with investor relations, Mr. Wayne Andrews. Please go ahead.

Wayne Andrews

Thank you, operator, and hello, everyone. This is Wayne Andrews, investor relations for InterOil.

Before we start, I want to briefly remind everyone that some of the statements made during this conference call constitute forward-looking statements within the meaning of U.S. securities laws, including such statements as those regarding expectations of future results, general financial performance, future business prospects, and strategies.

These statements are based on management's current expectations and are subject to a number of risks and uncertainties, which could cause actual results to differ materially from those described in the forward-looking statements. Investors are cautioned not to place undue reliance on these statements.

Additional information about factors that could cause our results to differ materially from those in the forward-looking statements can be found in the company's filings with the U.S. Securities and Exchange Commission and on SEDAR.

The speakers from management on the call today are Dr. Michael Hession, CEO; and Don Spector, CFO. We have a presentation to accompany our comments today. The presentation can be accessed on our website at interoil.com. You can find the link under the investor relations section on the homepage.

At this time, I’d like to turn the call over to Dr. Hession. Michael?

Michael Hession

Thank you very much, Wayne. Good morning and good evening, wherever you are in the world tonight, and thank you for joining InterOil’s 2013 annual results conference call. I’m Michael Hession, the CEO of InterOil, and I’m joined by Don Spector, our chief financial officer, who’s presenting with me today.

So let me begin with an overview of today’s presentation. First, I will provide an outline of our achievements for 2013 in the context of our corporate strategy, a corporate strategy that has three horizons. Horizon one is about stabilizing our current operations and efficiently running our business. Horizon two, that’s about monetizing the world-class significant Elk-Antelope gas resource. And horizon three, very importantly, it’s about growth, securing growth options through our exploration portfolio.

Then Don will provide an overview of our financial performance, and Don will touch on our financial highlights for 2013. He will talk through our refinery performance. He will talk about our downstream performance, and then he’ll discuss our balance sheet position and he’ll finish on our liquidity position.

And then Don will hand it back to myself, and I’ll provide an outlook for 2014, an outlook in the context of our corporate strategy. And after we finish the presentation, we’ll happily take your questions.

So, let me take you to slide four. It’s been a milestone year for InterOil. There’s no doubt about that. Soon after I arrived, the board signed off on a new, clear strategy that you have heard me talk about before.

It’s based on those three horizons, running our business efficiently, stabilizing our current operations, making sure our base business is sound. Horizon two, well, that’s about the developed resource, the world-class gas discoveries we’ve got, and specifically Elk-Antelope. Horizon three, and this is something that is very, very close to my heart, growth, the exploration portfolio, an exploration portfolio within a world-class basin.

So what do we do to execute this? Well, we set about building a new management team, a new phase for the company needed a new management team. This management team has got global experience in many areas: LNG negotiations; LNG operations; general commercial; exploration is very, very important, it’s going to be part of our growth; our operations; and a point that I’d like to bring across to everybody, corporate governance. We’ve got a team that’s very much focused on corporate governance.

So now we’re positioned as a front-rank Asian energy company, an Asian energy company with a substantial resource in Elk-Antelope, and with very exciting upside. So, if you’ll allow me, I’ll just talk about the highlights of 2013.

Record sales volume, 9.4 million barrels, that’s an 11% increase over 2012. Record revenue, that’s $1.4 billion, a 6% increase over 2012. Now, we did have a net loss of $40 million, and that’s been driven primarily by foreign exchange losses, and Don will talk about those losses in more detail later.

What else have we done? Well, we’ve streamlined our operations in Cairns, Moresby, and Singapore. And it’s all about making the business more cost-effective, more efficient, and more focused on value. Everything we do is focused on value.

We signed an SBA with Total in 2013. That closed last week, and that’s helped us monetize. It’s the first step in monetizing that major resource that is Elk-Antelope. We’ve also committed to one of PNG’s largest exploration and appraisal programs. We’ll be drilling up to eight wells in 2014 and 2015. That sort of activity has not been seen for some years in PNG.

So in summary, we’re going into 2014 with one, a very clear strategy; two, a record year on which to build; a new, experienced management team, a management team that I believe will realize InterOil’s full potential; and now we have a line of sight to the development of a major gas resource. We’ve got a line of sight to the development of Elk-Antelope. We’ve got an LNG project that is now real.

Finally, exploration upside. A secure path to capturing that upside, upside that I recognized when I joined the company, upside that the team has recognized, and we’ve now got a clear exploration activity set which will ensure that we test and capture that upside.

So with that, I’ll hand it over to Don, and Don will take us through the details of the financial results. Don?

Donald Spector

Thank you, Michael, and welcome to everyone listening to today’s presentation. Starting with slide six, operationally, the company had a very good year in 2013: record sales volumes of 9.4 million barrels, record throughput at the refinery at a touch under 28,000 barrels a day and record revenues of $1.4 billion.

Financially, though, the fall of the kina against the U.S. dollar has impacted our results, and net loss for the year was $40.4 million compared to a profit of $1.6 million for the 2012 year. The fall of the kina resulted in foreign exchange loss for the year of $41.2 million, and also contributed to a reduction in the future tax benefits of $31.2 million compared to the number in 2012. The kina unfortunately weakened from a rate of 0.4755 to 0.4130 in 2013, compared to a slight strengthening in 2012 from 0.4665 to 0.4755.

Turning to slide seven, the refinery had a 14% increase in throughput in the 2013 year, moving from 24,483 barrels a day to 27,999 barrels a day. The increase in throughput has enabled the refinery to achieve record sales volumes and record revenues in 2013, but as I mentioned earlier, the fall of the kina has impacted our results, particularly with the refinery, which incurred a foreign exchange loss of $37.1 million and a large reduction in the future income tax benefits. This is driven by the fact that the products we import are purchased in U.S. dollars and the products we sell into the downstream return kina proceeds.

Moving to slide eight, the downstream operations have a small reduction in sales volume for 2013, mainly due to the slowdown in construction in terms of LNG as it nears its completion. The downstream returned a net profit after tax in 2013 of $29 million compared to a profit of $32 million in the 2012 year.

If we move to the balance sheet items on slide nine, our gearingincreased to 26% by the end of 2013 as we drew down $100 million of the $250 million Credit Suisse led facility. These funds were used for the preparation of the extensive drilling program we have ahead of us in 2014. With the ramp up of these activities in the second half of 2013, [unintelligible] ratios decline as a result of this increase in expenditure.

In relation to liquidity, at the end of 2013, we had $150 million undrawn from the Credit Suisse facility in order to fund our drilling program. We also had $158 million of our working capital facilities to fund the operating business. These facilities have provided the capital that we have required to meet our business needs once we’ve worked on the continuing process on the sell down of [unintelligible] 15.

Finally, on slide 10, with the announcement last week of the completion of the Total deal, our balance sheet is obviously going to look a lot different going forward. The $400 million completion payment will reduce our gearing substantially, and as we discussed last week, will now provide the funds we require to complete the extensive drilling program we have ahead of us in the next 15 to 18 months.

Three of those wells have already been spudded this month and drilling is progressing as planned. Our fourth exploration well, Antelope Deep, is expected to be spudded in the second half of the year and the two Antelope appraisal wells, they should be spudded in the second half of this year, with a third, if required, to follow shortly thereafter. This is an exciting drilling program for InterOil, and we are now well-capitalized in order to meet these commitments.

And on that note, I’ll hand it back to you, Michael.

Michael Hession

Thank you, Don. So if I could take you now to slide 12, in summary, let me reiterate, we have a clear strategy based on three horizons, a clear, simple, understandable strategy based on three horizons.

Horizon one, that’s about stabilizing our current operations and efficiently running our business. Horizon two, monetizing our significant Elk-Antelope gas resource. And horizon three, securing those very exciting growth options through our exploration portfolio.

So stabilizing our current operations and improving our efficiency, we will continue to drive across the business, particularly in our refinery and our downstream operations, a good, hard, long look at our costings. We’ll continue to improve our processes and systems, again with the aim of capturing value. And of course we’ll continue the journey in improving the quality and experience of our workforce. It is the workforce and the team that makes this company.

So in monetizing our resources, we’ve already achieved that first milestone. We’ve closed the deal with Total. We’ll move forward and appraise Elk-Antelope, but we’ll also move forward and appraise Triceratops.

So today, InterOil is a company with a clear path to the development of a real LNG project, a clear, understandable path, a path along industry norms. Finally, in securing our growth, we will also continue one of PNG’s largest drilling programs. We’ve already spudded three wells, and we will drill up to eight exploration and appraisal wells in the next 12 to 15 months.

And we will endeavor to build our reputation as a partner of choice in the region. We’re now a company that will work with companies like Total to continue to build this reputation as a partner of choice in the region. I can’t emphasize that too much.

So in 2014, we will stick to our strategy, a strategy of having the right assets in the right company, run by the right team. I’ve been with this company now for nine months, and my objective has always been to create an investable stock with a transparent value where we do the right thing for the InterOil shareholders and the people of PNG. I believe we’ve made a good start on that journey.

So with that, I think we’ll turn it over to questions.

Question-and-Answer Session

Operator

[Operator instructions.] Our first question today comes from the line of Evan Calio, representing Morgan Stanley.

Evan Calio - Morgan Stanley

You’ve clearly accomplished a lot in less than nine months, and exciting future here. I have one question that relates to the recent claim by your new PRL15 or JV [unintelligible] partner, Oil Search. And wondering if you can help just to summarize the basis of that claim, how you believe you created a structure and a transaction with Total that moots that claim, and then just explain what the arbitration path forward is, just procedural, please.

Michael Hession

First of all, thank you for coming on and asking that question. We will deal with that claim with Oil Search under the provisions of the JOA. It’s as simple as that. We, Total and InterOil, believe our position is sound, and therefore we’ll strongly defend any challenge within the context of that JOA. That’s probably as much as I want to say tonight. I’d like to focus on the earnings call. Realistically, this the subject of a legal dispute. I don’t think it’s appropriate to make any further comments.

Evan Calio - Morgan Stanley

Can you give us at least a procedural path? I presume that joint venture agreement has an arbitration. Is that a U.S. arbitration? Any color on the procedural hurdles and where we’re going here?

Donald Spector

Well, what I’d like to say about this is, we’re very early in the process, and given where we are in the process, I don’t think it’s appropriate that I work through where this is going to go. What I can tell you is the JOA arbitration will be done in London, and again, we are very confident, we understand the process, and we’re working through that process at the moment.

Evan Calio - Morgan Stanley

And can you give estimated drilling time on your exploration wells? I know they’re varying depths and just wondering if we have more color on how long it might take to get results from your three exploration wells currently drilling.

Michael Hession

The wells on average in this part of the world take about 90 days. Now, the first well, actually Wahoo, is a bit shallower, so we expect to get some new flow towards the end of the month or early May on Wahoo. And then I’d just assume 90 days from spud on Bobcat and Raptor.

Operator

Next we’ll go to the line of Chris McDougall with Westlake Securities.

Chris McDougall - Westlake Securities

Just touching back on the Total Oil Search dispute for a second, I assume that in the interim, while all this is getting resolved, you would look to refinance the Credit Suisse facility, or have funds already been released from the $400 million? How is that going to work?

Michael Hession

What I’ll do is I’ll hand it across to Don on that question. Don?

Donald Spector

In relation to the completion time, as we’ve sort of worked through before, once those funds are received, we will then sit down and we will look at all of our facilities that we currently have. Once we then go through that, we really will know what our obligations are, and after that point in time, we’ll have a look at our requirements in relation to whether we need to refinance any of those facilities.

And I think where we see the [unintelligible] post completion times, maybe will obviously provide sufficient money for us to complete the drilling program, without having to go back to market, but we always look at how our balance sheet looks to ensure that we don’t put the company at risk.

Chris McDougall - Westlake Securities

And then on Pacific Rubiales, I believe there’s a carry associated with that agreement that might be effective for Raptor. Is that the case?

Michael Hession

That’s the case. With Pacific Rubiales, there is a [unintelligible] carry.

Chris McDougall - Westlake Securities

And then related to the fall in value of the kina, other than the negative effects on the downstream business, as I recall, the formula for setting the price in Papua New Guinea allows the currency effects, but there’s a lag effect. So we should see that maybe recover in the next year? And perhaps will the falling effect help the cost on some of the drilling and further development work, just with local costs being a little bit lower due to the currency?

Michael Hession

That last one is broadly right, but I’ll pass it across to Don to give you more detail.

Donald Spector

The fall in the kina is not advantageous for the business, but there are sort of measures to which we look in order to sort of compensate, so there are some mitigations that we can sort of implement to try and limit the amount of losses which we incur. One of the issues that we have in PNG, there’s not a lot of liquidity in the currencies there, so that makes it difficult in order to cover all that exposure. We constantly look at ways in which we can ensure that any losses are minimized.

Operator

Our next question comes from Pavel Molchanov with Raymond James.

Pavel Molchanov - Raymond James

About the resource report, not a lot of changes between 2012 and 2013 in your internal resource estimates, but there is still a pretty wide delta between the Gaffney Cline outside report and what you guys indicated in today’s filing. I’m curious how you reconcile that, because the gap seems to be 30% to 40%.

Michael Hession

Thank you for asking what’s a very important question. It’s a big field that’s underappraised, very simple. And that’s why we’re going ahead with Total and also it’s to appraise this field. And there are a number of factors, a number of degrees of uncertainty, and the [unintelligible] rock volume is probably the main one, the definition of top reservoir is something that is open to some interpretation. And we’ll pin that down through the appraisal program going forward. So my view on this is, rather than speculate, let’s just work with the appraisal program and the results will be what they are.

Pavel Molchanov - Raymond James

And then on Triceratops, any sense of timing in which you might be able to do some appraisal at that prospect?

Michael Hession

Our plan is definitely to do some appraisal on Triceratops. That also is a very interesting gas discovery which is underappraised. We plan at the moment to be first Q of next year. We’re working through the timing of the drilling, but I would say if you run with first quarter next year, we’ll have a better understanding of what Triceratops is going to give in terms of value. I expect maybe March or April of 2015.

Operator

And we’ll go to the line of [Atul Murthy] with CVP Capital.

[Atul Murthy] - CVP Capital

In terms of the first three wells that we’re going to be getting here, Wahoo, Raptor, and Bobcat, I thought I heard that Wahoo is the first in the queue and we’d be getting results in May, and that the other ones are probably end of June or July. Is that correct?

Michael Hession

Probably not that far out. I would say we’ll move 90 days from spud for Raptor and Bobcat. That’s presuming operations go reasonably well. Wahoo is shallower, so we’ll probably hit reservoir I think at the back end of April, early May.

[Atul Murthy] - CVP Capital

And I’m wondering, in terms of the balance sheet question, can you tell us what you think right now would be the capex actual expenditures that you’ll incur in 2014 here and how you plan to balance that between just drawdowns on cash and permanent financing, etc.? Do you that yet, or are you still kind of developing that.

Donald Spector

If you look at that drilling program going forward, there will be two appraisal wells on Antelope in 2014, which Total will carry our costs on those wells. There is the one Antelope deep exploration well, which we will also be carried on that well in 2014. So that leaves the three exploration wells, which are currently being drilled. So those wells will obviously be to our account.

Now, 100% cost on those wells would be somewhere in the vicinity of $140 million, $150 million if you assume $50 million per well, to which obviously InterOil will carry a large percentage of that cost. So that’s a reasonable estimate of our outlays for 2014 and then if you look at the completion payment which obviously we’ll see from Total, that expenditure is well and truly covered within that budget profile.

Operator

There are no further questions at this time.

Michael Hession

Thank you very much for everybody on the call this evening. As I said, it’s been a milestone year for us here at InterOil. It’s been an exciting year, and I’m looking forward to delivering further value to the company and the shareholders over the coming months. Again, thank you very much for coming on tonight, and you’ll be hearing news in the not too distant future of our exploration wells.

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