It’s a message to the boards and managements of all indebted resource companies at the moment – the collapse in commodity prices demands tough and dramatic action to reassure investors and banks that the companies in question can remain viable businesses.
So after Origin Energy (ORG) surprised the market this week with a big collection of a new capital raising and spending cuts, expect others to follow, perhaps starting with the struggling Santos (STO).
Origin’s board and management snapped this week under the pressures of huge debts and a plunging share price and produced a $4.7 billion rescue package of measures, including a $2.5 billion entitlement issue designed to stave off critics and creditors.
Shareholders are going to be stiffed, with the dividend slashed for the next two years to save money, so expect the retail end of the market to remain sceptical of Origin and its current fund raising efforts.
After months of resisting investor pressure for a capital raising, and denying that one was on its agenda, the measures revealed on Wednesday by the board look desperate – the sign of a board behind, now trying to get ahead of the curve and convince the market that they are on top of things.
Since the start of 2015, Origin shares have sunk 47.7% to Tuesday’s close of $6.10.
ORG 1Y – Origin blinks as debt burden weighs
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But the rout in the shares of Glencore earlier this week – the heavily indebted global commodities and mining giant – contained a message for Origin, and for other debt-ladened resource companies to do something quickly to fix the problem.
In the wake of Origin’s announcement, investors looked again at Santos and sent its shares down more than 7% to $3.98, down more than 51% from the start of the year.
Origin has debt of around $12 billion and a market value half that – a position that is unsustainable and would have been worrying its banks.
Seeing Santos has around $9 billion in debt, it will be under pressure to follow Origin into a drastic move to protect its balance sheet, and a market cap of around less than half that – $4 billion.
Origin’s fully underwritten entitlement issue is part of a $4.7 billion package of measures by the energy supplier intended to shore up its balance sheet and avoid its credit rating falling to junk status.
The package includes up to $800 million in asset sales, $1 billion in spending cuts and a 40%, meaning shareholders are going to pay a high cost for the illogical optimism of the board and senior management.
In fact dividends to shareholders will be cut to 20 cents a share for the next two years, saving $420 million of cash flow. That compares with 50 cents a share payout in 2014-15.
For that reason and the collapse in share prices, don’t expect retail shareholders to give strong support to the issue.
Origin managing director Grant King said this week the feedback from most investors was that the company needed to rapidly reduce its debt, which has been caused by funding for the $24.7 billion Australia Pacific liquefied natural gas project in Queensland. Funding for that project is supposed to peak at $12 billion this year.
“It has become clear through July and August that as oil prices fell further, equity markets have become more volatile, and at the end of the day we just have to reduce the absolute level of debt in Origin," Mr King said. "The only way to absolutely reduce that debt, quickly, today, is to raise equity. We couldn’t, in a sense, sell our way to that position."
The latest announcement take to $6.9 billion the value of the various moves by the company to lower costs. The latest package is intended to reduce debt to below $9 billion by mid-2017.
The $2.5 billion raising is being underwritten by Macquarie and is made up of a four-for-seven entitlement offer priced at $4 per share, a nasty 34.4% discount to Tuesday’s close.
Origin chairman Gordon Cairns described the measures as “prudent in light of current market conditions” and said they struck “a reasonable balance” for shareholders.
Seeing he is now also chair of Woolworths, Mr Cairns is in a tough position with two of the toughest situations in corporate Australia at the moment to resolve.
The fund raising got a tick from ratings agencies, which rate Origin on the lowest investment grade, BBB minus and both Standard & Poor’s and Moody’s left their ratings on Origin unchanged, both pointed to the increased flexibility the company gains within its rating band.
"These initiatives demonstrate the group’s commitment to its investment grade rating, which is a key credit consideration given that low oil prices are eroding the company’s financial flexibility," said Moody’s vice president Spencer Ng.
Assets to be sold include Origin’s stakes in oil and gas production ventures in the Cooper Basin and the Perth Basin, overseas exploration, geothermal energy, wind farms and pipelines. The company says it has already received approaches for assets and expects to complete sales by early next year.
Origin is also halting spending on uncommitted oil and gas projects as part of the plan to slash a further $1 billion from capex and working capital during the next two financial years. That’s a 40% boost to savings in this area alone.
