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BG shows short-term vulnerability, long-term promise

While a recent production update from Brazil's Petrobras shows BG Group's long-term potential, there's no end in sight to the company's problems in Egypt
June 11, 2014

What's new:

• Encouraging well results from Brazil

• LNG projects in Australia on track

• Commodity and foreign exchange exposure hedged

IC TIP: Sell at 1235p

For years, BG (BG.) enjoyed a relatively unblemished operational record. In January, however, the group issued its fourth profit warning in less than 18 months, leading to accusations that chief executive Chris Finlayson had taken his eye off the ball. This was perhaps unfair, given that he had only taken over the reins from Sir Frank Chapman a year earlier. But by the end of April, Mr Finlayson had resigned, leaving group chairman Andrew Gould in the role on a temporary basis.

He faces no shortage of challenges. Production this year is being pitched at the lower end of estimates, partly because of North Sea maintenance commitments. Meanwhile, there is still no resolution in sight to the issues that have constrained BG's exports from Egypt.

These near-term problems remain, but news from Petrobras underlines the strength of BG's prospects over the long haul. The Brazilian state-owned major confirmed that the 'pre-salt' geological formation under the Sapinhoa and Lula NE fields - in which BG holds respective stakes of 30 and 25 per cent - is demonstrating exceptionally strong flow rates. Capacity is consequently building towards target more rapidly than originally anticipated.

Deutsche Bank says...

Buy. Average production from each of the three most recently connected wells in the Santos Basin is running at roughly 34,000 barrels of oil equivalent per day. Overall, Petrobras suggests that well productivity across the Santos Basin is around 30 per cent ahead of levels seen a year ago. For BG, the fact that targeted capacity at Santos is six months ahead of schedule won't have a dramatic impact on near-term forecasts. But it could result in significantly lower drilling and completion costs, which account for about half of the field capital expenditure bill. This should provide BG's investors with greater confidence that the long-term promise of Brazil's vast pre-salt endowment is finally starting to be realised.

Charles Stanley says...

Hold (from accumulate). BG has confirmed that its schemes in Brazil and Australia are on track, with initial output from the Queensland Curtis LNG project expected in the fourth quarter. However, its established assets continue to encounter issues, particularly those in Egypt. With a significant investment programme ahead, the group has decided to hedge 50-70 per cent of its exposure to commodity prices and foreign exchange in 2014. This is designed to reduce volatility in its operating cash flows, which are expected to be in negative territory for the remainder of the year. Expect earnings per share of 107.8¢ this year, rising to 130.2¢ in 2015.