Life comes at you fast in Nigeria. Or are the natural laws of order accelerated here?
Take the oil and gas sector, for example. Oil and gas companies and countries are making more money than they’ve made in decades. For most, it’s more than they’ve ever made, period. In Q2, Shell made over $11 billion in profits, its best quarter ever, and Oman is set to record an annual budget surplus worth 6.5% of its total gross domestic product (GDP). But Nigeria is the exception.
Key takeaways
-
Despite a strong performance in Q1 2022, Nigeria’s oil and gas sector issues have finally caught up with Seplat as the company recorded a net loss in Q3 2022.
-
While Nigeria’s oil and gas sector is declining due to theft, the global oil and gas economy is experiencing a record-breaking year as prices have averaged over $100 per barrel.
- Unfortunately, investor sentiment towards
A few months ago, I wrote an article titled “Why investors are bullish on Seplat” based on the company’s Q1 financial performance. In Q1 2022, Seplat recorded a 58.6% increase in revenues and a 130% increase in operating profit, with $35 million profit before tax, more than triple Q1 2021 numbers. This performance was driven by high prices despite the company’s lower production volumes in Q1 2022 due to oil theft. Seplat was flying high on the Nigerian stock exchange with a share price of ₦1,290, up 98% from Q1 2021. The verdict from investors and analysts was “buy, buy, buy”, and we were all bullish (ps: this is not investment advice).
Two quarters later, I’ll be the first to admit that my article did not age well. Even though oil and gas prices are still high, Seplat recorded a net loss of about $10 million. Worse still, its credit rating has been downgraded by Moody’s, an international credit rating agency. This sends a clear signal to investors and analysts: “sell, sell, sell”. One minute, you’re the darling of the NGX, and the next, investors are dumping your shares faster than you can say, “Seplat!” Indeed, the stock market is a fairweather friend. So, what went wrong?
Today, we will explore the extent of Seplat’s misfortune in Q3 2022. But, first, on a significantly more positive note, let’s see how other companies and countries performed in the same period.
Dollars galore in the global oil and gas sector
The chart above tells us everything we need to know about the oil market: prices have stayed high all year. It’s not just crude oil but also natural gas. For context, the last time Henry hub natural gas prices (a benchmark natural gas grade) averaged above $6/MmBTU was 2008, and for crude oil, Brent crude oil prices (a benchmark crude oil grade) have averaged $102/barrel, the highest in nine years.
Naturally, oil producers have been cashing out because revenue for oil and gas companies is a product of prices and production quantities.
The chart above shows that Shell (Netherlands), Aramco (Saudi Arabia), and ExxonMobil have had a great year. Aramco is nobody’s mate, with $42 billion in net income for Q3 alone, 39.5% higher than last year. For context, Aramco is the most profitable company in the world, making more than double Apple’s profits for the period and more than Apple has ever made in a single period. Aramco’s net income from Q1 to Q3 is $130 billion, about a third of Nigeria’s GDP. Shell and Exxon have had similarly phenomenal years, as the chart above highlights.
Prices have stayed high because of friction in supply in 2022. Even before Russia invaded Ukraine, oil prices were higher than average. Years of underinvestment in oil assets resulted in tight supplies as COVID-19 lockdown measures worldwide were eased. Prices spiked above the $100/barrel mark when Russia, one of the top three oil and gas suppliers globally, invaded Ukraine on the 23rd of February, leading to lower production from Russia. While US oil production is picking up at an average of 11.9 million barrels per day, it’s still below the February 2020 mark of 12.8 million barrels per day.
All these factors mean that supply has remained lower than pre-covid levels while demand has gone back to pre-covid levels, resulting in high prices that oil-producing companies and countries enjoy.
Prices are also likely to stay high till 2023. For instance, in October 2022, OPEC+, led by Saudi Arabia, cut production by 2 million barrels per day to stabilise the crude oil market and keep prices up after they slipped below $88.
So, it’s a good year to be bullish on oil companies.
Countries are enjoying the oil price rally as well.
Saudi Arabia, the United Arab Emirates, Kuwait, Qatar, Bahrain and Oman, the six Gulf Arab countries, will all record budget surpluses this year primarily due to higher oil prices. Even as inflation and resultant US interest rate hikes wreak havoc on the global economy and squeeze countries’ budgets, these oil-producing countries have money for expansionary fiscal spending. For instance, Kuwait provided a $1.95 billion grant for pensioners, and Oman announced cuts on electricity bills.
Essentially, oil companies and countries are eating good right now. But that’s not what’s happening in Nigeria, and Seplat is a great example.
Finances in the red
The first thing you’ll notice when you look at the table below is that all the numbers are red, indicating a decline.
The company recorded a net loss before tax in Q3 of ₦9.8 billion compared to a profit of over ₦14 billion in the same period in 2021, even though oil prices were significantly lower then. Q3 revenues were also just 60% of Q3 2021’s revenues. The financial ratios below reflect the same outcome with declining profit margins, return on equity and return on assets.
Even though Q3 has been a bad quarter, the company could still end the year on a net positive note compared to last year if Q4 doesn’t go badly. But, as we’ve seen so far, this might be a tall order given the incessant, uncurtailable theft in the upstream oil sector.
While Shell and Aramco are balling in 2022, Seplat and the NNPC are floundering, as reflected in our production numbers below.
Similarly, while the Gulf states record their biggest budget surpluses in decades, Nigeria is recording its most significant budget deficit and facing a foreign exchange crisis, even though oil prices are higher than they’ve been in years.
In summary, even innovative, exceptional companies like Seplat aren’t immune from Nigeria’s troubles.
An oil sector without oil
You’d have to be living under a rock to be unaware of Nigeria’s oil theft dilemma. First, a nine-year-old four-kilometre pipeline was seemingly discovered this year. Then, an undocumented vessel carrying millions of barrels of crude oil was also discovered leaving Nigerian waters. It’s safe to say it’s been a monumental year of discovery for our oil sector.
While oil theft significantly impacts production, the second-order effect (production shut-ins) is much worse. Seplat’s Q3 performance is a testament to that.
In Q3 2022, Seplat’s oil and gas production was just 30,253 barrels of oil equivalent per day (boepd) compared to 52,385 boepd in the previous quarter. Seplat’s production uptime was just 41.9% in Q3 compared to 79.2% in Q2 and 85.6% in Q3 last year. That means compared to Q2’s 79%, Seplat could only produce 42% of the time due to longer production shut-ins.
Production shut-ins happen when a company has to shut down oil and gas production for any reason. It’s essentially the production a company will have to forgo while dealing with the reason for the shutdown. Economists call this the opportunity cost. In Nigeria, production shut-ins are primarily due to vandalism or theft, and companies shut down production to fix leakages and prevent theft.
The NNPC’s monthly FAAC reports include details of production shut-ins which we’ve presented in the chart above. The August report, which had data for June, showed that Nigeria lost 7.56 million barrels to production shut-ins, an average of 252,000 barrels per day. This is a big reason why Nigeria’s production has dropped from 1.4 mmbpd in January to 938,000 bpd (excluding condensates) in September, a 33% decline.
In Seplat’s case, all its oil and gas-producing assets suffered from production shut-ins in Q3.
The table above links the incidents to their causes, and they’re all results of vandalism. The most significant events were the shutdown of the Bonny export terminal and the Trans-Forcados pipelines. Practically all of Seplat’s production assets were shut down for extended periods due to these two events.
First, in March, Shell declared Force Majeure on the Bonny terminal following reports that up to 95% of the oil was consistently stolen from the pipeline. Unfortunately, the Bonny terminal is a major evacuation route for Seplat’s OML 53, resulting in a production shut-in for the entire Q3. Similarly, the Trans Forcados Pipeline and the Forcados Terminal were shut down in July due to leaks from vandalism and theft affecting three of Seplat’s assets.
As a result, all (four) assets owned by Seplat were affected by these events in Q3, and oil and gas production declined. The Forcados pipeline and terminal are back up in Q4, but the damage to Q3 performance is already set in stone. For the Bonny Terminal, Seplat is in talks to evacuate oil via truck which will cost more than pipeline evacuation.
But, it isn’t easy to innovate around Nigeria’s dysfunction. In the previous Seplat article, we mentioned how the company had plans to use another pipeline network, the Amukpe Escravos pipeline, to minimise production shut-in losses. However, the pivot wasn’t as smooth as planned, with the company citing operational and technical delays.
Even though Seplat expects better output in Q4, when operating in an erratic climate like Nigeria’s oil sector, Murphy’s law comes to mind: anything that can go wrong will go wrong.
So, how do investors feel?
Sell, sell, sell
Investors aren’t crazy about developing countries right now, given higher interest rates in the US, but they’re even less crazy about Nigeria.
In Q1, investors were still relatively bullish because the expectation was that higher oil prices would translate to higher earnings for the NGX’s oil darling (Seplat) and the Nigerian economy, given our reliance on oil revenue. As our finance analyst puts it, “due to Nigeria’s dependence on oil for government revenues and fx earnings, the Nigerian stock market has a positive relationship with oil prices, i.e., as oil prices edge higher, so does the stock market”.
But here we are in November, and Seplat’s credit rating was downgraded last month by Moody’s, along with Dangote and IHS holdings. The reason? These companies are unlucky enough to operate in Nigeria.
Moody’s acknowledged that all three companies have relatively prudent financial policies, adequate liquidity, moderate to low leverage and strong business profiles. However, excluding Seplat, which earns oil revenue in dollars, Dangote and IHS are still constrained by Nigeria’s FX volatility. And all three are materially exposed to Nigeria’s economic, political, legal, fiscal and regulatory environment. Regarding legal and regulatory issues, recall Seplat’s pending deal to acquire Exxon-Mobil’s onshore oil company.
With Nigeria’s high-risk business environment, investors are bearish, and companies operating in Nigeria are collateral damage. Foreign investors have been fleeing since 2020, a trend that only worsened in 2022. Why? Nigeria is an oil-producing country facing a decline when oil prices have averaged above $100/barrel for the entire year. This isn’t a situation that makes sense to any rational investor, domestic or foreign, and companies like Seplat are bearing the brunt.
