Low Unit Cost Projects And Gas Exposure Will Support Stronger Long Term Cash Generation

Catalysts

About Vår Energi

Vår Energi is an oil and gas producer focused on the Norwegian Continental Shelf with a diversified portfolio across oil and gas fields and exploration assets.

What are the underlying business or industry changes driving this perspective?

• Ramp up of major low unit cost projects such as Johan Castberg and Balder via the Jotun FPSO, with production efficiencies up to 95% and reported operating costs of around US$3 to US$5 per barrel in some assets, supports the effort to hold group production costs near US$10 per barrel and can help sustain margins and cash generation.
• A large inventory of around 30 early phase projects, mainly subsea tiebacks with average breakevens around US$35 per barrel and short time to market, offers a long pipeline of potential production that can support revenue and earnings visibility towards 2030.
• Material undeveloped resource base of about 3b barrels, with roughly 60% yet to be developed and 2C resources of around 900m barrels, provides scope for organic growth that can underpin long term production levels and support cash flow and dividend capacity.
• Gas exposure of around 30% of volumes, supported by flexible gas sales agreements and fixed price contracts where 15% of volumes are locked at around US$78 per BOE until third quarter 2026, can help stabilize realized prices and cash flow relative to spot markets.
• Focus on decarbonizing operations through electrification where economic, portfolio optimization and energy management, together with plans to decommission higher cost assets like the Balder FPU (which is linked to US$130m gross annual OpEx), is aimed at structurally lowering costs and supporting net margins over time.

Assumptions

This narrative explores a more optimistic perspective on Vår Energi compared to the consensus, based on a Fair Value that aligns with the bullish cohort of analysts. How have these above catalysts been quantified?

• The bullish analysts are assuming Vår Energi's revenue will grow by 7.2% annually over the next 3 years.
• The bullish analysts assume that profit margins will increase from 7.8% today to 11.4% in 3 years time.
• The bullish analysts expect earnings to reach $1.0 billion (and earnings per share of $0.39) by about January 2029, up from $581.1 million today. However, there is some disagreement amongst the analysts with the more bearish ones expecting earnings as low as $718.1 million.
• In order for the above numbers to justify the price target of the more bullish analyst cohort, the company would need to trade at a PE ratio of 13.3x on those 2029 earnings, down from 14.8x today. This future PE is greater than the current PE for the NO Oil and Gas industry at 11.1x.
• The bullish analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.73%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• The company’s long term plan relies heavily on a large inventory of early phase projects and contingent resources. If more projects are delayed, reworked or fail to reach final investment decision than currently indicated, production towards 2030 could come in below the guided 350,000 to 400,000 barrels per day range, which would pressure revenue and earnings.
• Management highlights significant flexibility with around 65% of capital spend to 2030 uncommitted and active use of this flexibility to cut or defer projects. If the lower price period proves prolonged, ongoing adjustments to CapEx could reduce future production growth and resource conversion, limiting long term cash flow and dividend funding capacity.
• The plan to sustain low operating costs of around US$10 per barrel depends on high production efficiency, continuing ramp up benefits from Johan Castberg and Balder through the Jotun FPSO, and cost saving initiatives such as decommissioning the Balder FPU. Any sustained operational underperformance, higher maintenance needs or cost inflation in services would weaken net margins and operating cash flow.
• There is a growing focus on carbon emissions and electrification of offshore assets. While Vår Energi has discontinued some power from shore projects due to challenging economics, tighter climate policy, higher carbon costs or pressure from regulators and stakeholders could still require additional decarbonization spending, raising long term OpEx and CapEx and weighing on earnings.
• The dividend plan of US$1.2b per year in 2025 and 2026 rests on current production, hedging, gas contracts and a free cash flow breakeven of around US$40 per barrel over the cycle. A sustained period of weaker realized prices once hedges and fixed price gas contracts roll off would leave less room to fund both dividends and growth projects, which could affect net margins and retained earnings.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The assumed bullish price target for Vår Energi is NOK46.21, which represents up to two standard deviations above the consensus price target of NOK38.31. This valuation is based on what can be assumed as the expectations of Vår Energi's future earnings growth, profit margins and other risk factors from analysts on the bullish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of NOK46.21, and the most bearish reporting a price target of just NOK25.05.
  
• In order for you to agree with the more bullish analyst cohort, you'd need to believe that by 2029, revenues will be $9.2 billion, earnings will come to $1.0 billion, and it would be trading on a PE ratio of 13.3x, assuming you use a discount rate of 6.7%.
  
• Given the current share price of NOK34.69, the analyst price target of NOK46.21 is 24.9% higher.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.