Suncor Energy (OP/A): Continue to recommend; concerns regarding costs, in-situ seem overdone - Goldman Sachs - October 27, 2005
We continue to rate Suncor Energy Outperform relative to an Attractive coverage view as we believe the company is on track with its oil sands expansion and that concerns regarding rising natural gas prices relative to crude are overdone, at least for now. We believe that Suncor will continue to show above-average full-cycle returns, that oil sands cost inflation is a cyclical phenomenon and that commodity prices (and costs) will continue to be substantially above normalized levels. We would note improved performance at the Firebag in-situ operation, and increased consistency going forward could be a catalyst for the stock considering that Suncor has access to significant in-situ resource.
KEY COMPANY-SPECIFIC CATALYSTS
(1) Ramping up production following recent capacity expansion. With the #2 upgrader back online following the recent fire and the recent upgrader expansion, Suncor now has upgrading capacity of 260,000 bpd. We expect Suncor to build to this level over the coming two quarters as the company further ramps up production from Firebag. With the greater upgrading capacity, the company's differential could fall slightly as it sells less bitumen and more synthetic oil. All of this give Suncor more exposure to WTI prices versus most oil-focused peers that sell oil that is either lower quality or as part of a production sharing agreement with less price sensitivity.
(2) Capital costs of 2010-12 expansion. We continue to believe that the Street is penalizing Suncor too much for oil sands cost inflation. While more conventional oil producers are seeing secular cost increases (WTI oil is harder/more expensive to find) in addition to service cost pressures, Suncor not only has in tow many years of recoverable resource but the drivers of higher oil sands capital and operating costs are highly cyclical in our view. Given our bullish outlook for commodity prices, we believe costs will remain high. However, given that Suncor is a major oil sands producer, its revenues should be above mid-cycle as well. We believe that steel costs, the value of the Canadian dollar, natural gas input costs and labor costs will all fall with commodity prices, the latter of which with some stickiness. Suncor's 2005 and 2008 oil sands expansion plans are on schedule and on budget, with the ultimate costs of the sizeable 2010-12 expansion less visible.
(3) Consistency of in-situ production, operating costs. Though the Street may be overly focused on Suncor's in-situ resource at the expense of what we believe to be attractive remaining opportunities for mining expansion, in-situ developments should be a driver of Suncor shares over the next two years. During 3Q 2005, Suncor's Firebag steam-assisted gravity drainage project showed improved production and steam-oil/gas-oil efficiency over 2Q 2005. The company expects that efficiency at this first phase of the project will continue to improve. Suncor has large expansion opportunities for in-situ production, as does industry. The most consistent, large-scale oil sands projects remain in mining, but as more companies perfect in-situ, we believe that Street confidence will improve which could help Suncor shares. The company has just commenced its second stage at Firebag. Given that steam injection is needed as a precursor for production, gas-oil ratios should go up and production could be quite volatile. This could cloud further improvements at stage one on a temporary basis, but is a necessity as the company continues to grow at Firebag.
2Q 2005 RESULTS IN LINE WITH EXPECTATIONS
Suncor reported 3Q 2005 operating and financial results generally in line with expectations. Adjusted EPS of $0.55 includes insurance proceeds of about $0.24. Stripping this out, the resulting $0.31 adjusted EPS was in line with our estimate of $0.30. Net oil sands production of 128.0 Mb/d was higher than our estimate due mainly to lower royalties, and natural gas production of 157 MMcf/d was slightly above our 155 MMcf/d. Costs were generally higher than expected, with all-in unit costs averaging $35.52 per BOE versus our estimate of $29.99 per BOE, with the most significant variance being production taxes of $1.21 per BOE versus our estimate of $0.43 per BOE. The average oil sands price realization was $46.57 per barrel versus our estimate of $43.21 per barrel, while the realized natural gas price of $6.92 per Mcf was slightly above our estimate of $6.75 per Mcf. Downstream performance in Canada was in line with expectations, while US refining volumes and margins were strong, contributing to US downstream EBITDA of $72 million versus our estimate of $29 million. Net debt/tangible capital was 37% at quarter-end.
UPDATING ESTIMATES
We have updated our quarterly 2005 and full-year 2006 EPS estimates to incorporate changes to our assumptions for production, unit costs, and the timing of insurance proceeds. We now estimate EPS of $0.78 for 4Q 2005 ($0.76 previously), and $1.71 ($1.76 adjusted) for full-year 2005 ($1.45 previously). Our 2006 EPS estimate is now $4.72 versus $5.20 previously. There are no changes to our 2007 or 2008-2010 (normalized) EPS estimates.
Each of the analysts named below hereby certifies that, with respect to each subject company and its securities for which the analyst is responsible in this report, (1) all of the views expressed in this report accurately reflect his or her personal views about the subject companies and securities, and (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this report: Brian Singer, Arjun Murti.
===
Previous Goldman Sachs Notes on Suncor:
Suncor Energy (OP/A): Super-spike not being priced in, even assuming significant cost inflation Goldman Sachs August 22, 2005
Message 21628267
Suncor Energy (OP/A): Oil sands remains attractive despite 2Q 2005 noise Goldman Sach July 28, 2005
Message 21549797
Suncor Energy (OP/A):Continue to recommend following field trip, meetings in Calgary Goldman Sachs June 07, 2005
Message 21397516
SU (OP/A): Inflated concerns over oil sands cost inflation Goldman Sachs May 31, 2005
Message 21372738
Suncor Energy (OP/A): Beyond fire, valuation remains attractive Goldman Sachs April 28, 2005
Message 21275645 |
