Company Overview: Origin Energy Limited is an integrated energy company. The Company is engaged in exploration, production, generation and the sale of energy to households and businesses across Australia. Its segments include Energy Markets, Integrated Gas, Contact Energy and Corporate. The Company's exploration and production portfolio includes the Bowen, Surat and Cooper/Eromanga basins in Central Australia, the Otway and Bass basins in Southern Australia, as well as interests in the Browse and Perth Basin in Western Australia, and the Bonaparte and Beetaloo Basin in the Northern Territory. It also has exploration projects located in New Zealand in the Taranaki and Canterbury basins, as well as in Vietnam. It jointly owns and wholly operates gas-producing facilities in Australia and New Zealand, including the BassGas and Otway Gas Production plants in Victoria, coal seam gas (CSG) production plants as part of the Australia Pacific LNG Project in Queensland, and the Kupe Gas Project in New Zealand.
 

ORG Details

Strong Performance with the turnaround to Statutory Profit During 1HFY19: Origin Energy Ltd (ASX: ORG), Australia’s leading retailer in the energy segment, has witnessed a strong first half of FY 19 with 53% growth in underlying profit to $592 million, on the back of higher oil prices, strong production at its Australia Pacific LNG project (APLNG) & its financial performance and lower net financing costs (due to lower debt and a lower average interest rate). During the first half of FY 19, ORG has reported the Statutory Profit of $796 million as compared to a Statutory Loss of $136 million from continuing operations in the first half of FY 18. The statutory profit has increased due to higher oil linked revenues in APLNG, lower financing costs, higher impairment charges in the prior period and movements in fair value and foreign exchange expense which were partly offset by increased APLNG related commodity hedging costs. During the 1H FY 2019, the company’s underlying earnings before interest, tax, depreciation and amortization (EBITDA) improved to $1,727 million compared to $1,435 million in the corresponding period last year driven by strong growth in the EBITDA of its integrated gas business. During half-year of FY 19, total group revenue grew to A$7.66 billion, versus A$7.49 billion reported in the same period of the previous year. The company’s capital expenditure for the half of FY 19 is of A$193 million which consist $15 million of mandatory spend mainly associated to Power of Choice electricity market reforms, sustaining spend amounting to $130 million consisting $64 million related to Eraring power station planned maintenance, $28 million associated with Uranquinty major inspections and $11 million in LPG and $48 million associated with productivity/growth, including Quarantine power station re-power, and IT/digital investments. The company’s net cash flow from operating and investing activities (NCOIA) has risen 115% YoY to $754 million in 1H FY 2019. The company’s adjusted net debt reduced to $6.1 billion at 31 December 2018, gearing reduced to 32% and ORG’s Adjusted Net Debt/Adjusted Underlying EBITDA happens to be 3.1x. The company focuses on to deliver adjusted underlying net debt to adjusted underlying EBITDA ratio in the range of 2.5x - 3.0x. 

Therefore, we expect that ORG would primarily be supported by the strong balance sheet, lower interest cost and robust strategy of generating cash receipts as these factors might place it in a robust position to dodge the challenges which might arise. Also, the company has re-affirmed the target of >$150 million Origin-wide cost savings by FY2021 which also includes >$100 million from Energy Markets.


First Half of FY 19 Financial Performance (Source: Company Reports)

Decent Standing from Margins’ Perspective: The company is possessing decent standing from its key margins’ perspective as its net margin demonstrated YoY improvement of 12.3% and stood at 10.4% in 1H FY 2019 which reflects the company’s improved capability to convert its top line into the bottom line. Also, there has been YoY improvement in its operating margin of 4.2% to 5.1% in half year ended December 2018 hinting towards ORG’s cost-effective strategies. The company’s ROE stood at 6.5% reflecting the rise of 7.7% YoY. Also, the company happens to be in strong cash flow position as its cash from operating activities have been witnessing a decent rise over the past few years which builds the confidence in the company’s operations. Also, the company’s cash receipts have been witnessing a decent growth over the past few years.
Release of draft determination: Recently, Origin Energy had stated that Australian Energy Regulator published their draft determination of Default Market Offer (or DMO) for the customers on standing offers in New South Wales (or NSW), Queensland and South Australia. The impact of DMO on Origin Energy would be dependent on final determination which is due by April 30, 2019 as well as would be effective from July 1, 2019. If the final DMO determination is consistent with respect to draft determination, then ORG expects that introduction of a DMO would be delivering circa 230,000 residential customers saving on average $105 p.a. and circa 55,000 small business customers saving on average $355 p.a.

Understanding Energy Markets Segment: The company’s energy markets segment has posted the net cash flow from operating and investing activities (NCOIA) of $621 million. The growth in this segment was 2% in its underlying EBITDA which stood at $852 million in 1H FY19. The rise was mainly because of the gas portfolio, thanks to the strong sales to business customers. The electricity portfolio got impacted by increased levels of competition, customer price relief initiatives and lower electricity usage per customer. The company’s energy markets segment witnessed net customer account losses of 28,000 for 1H FY 2019. ORG has been focusing on improving the customer experience and addressing the cost to serve by targeting efficiencies with respect to retail business, as part of the organisation-wide productivity effort. In 1H FY19, 306 megawatts of new solar energy came online and, there are expectations, that further 773 megawatts of renewable energy would come online by 2020.


Operational Performance (Source: Company Reports)

Increased Commodity Prices Aided Integrated Gas Segment: The company’s integrated gas segment has also generated strong net cash flow from operating and investing activities (NCOIA) of $ 237 million after servicing the project finance within APLNG. This is driven by stable production and increased realised prices at APLNG. The cashflows from this segment grew on the back of cash contribution of $ 393 million from APLNG. It got partly offset by ORG's hedge costs. The segment’s underlying EBITDA in integrated gas segment witnessed the rise of $270 million or 43 per cent to $900 million which was on the back of increased commodity prices, particularly higher oil prices combined with reliable production from the Australia Pacific LNG project.


Integrated Gas (Source: Company Reports)

Capital Management: In 1H FY19, ORG has recommenced the payment of a dividend, and has declared an interim dividend of 10 cents per share which will be paid on 29 March 2019. The company also expects to pay the shareholders a final dividend of 10 cents per share for FY19. It equates to a total dividend payment of 20 cent per share for the full year. Moreover, the company has adopted a disciplined capital approach for debt reduction and the company’s gearing is currently at 32% on a debt. The company has now refinanced US$4.5 billion of debt, which has resulted in an A$100 million improvement in distribution over the period FY2020-FY2025 (Origin share).

Portfolio Management: Recently, the company entered into an agreement to unload its Ironbark asset to APLNG for the consideration of $231 million. In its role as upstream operator for APLNG, ORG would be responsible for the development of Ironbark. Based on the sale price, Origin has recorded a non-cash post-tax impairment of $34 million in the 31 December 2018 interim financial statements which is offset by a $68 million tax benefit on recognition of capital losses. However, the sale is subject to ACCC and foreign investment approvals. Also, the company entered into an agreement for the acquisition of 100% of OC Energy Pty Limited for an upfront payment of $33 million and a deferred amount of $25 million. The transaction is subject to customary conditions and completion adjustments, with completion targeted for 2H FY19.

Future Outlook: For FY 19, the company’s guidance for energy markets remains unchanged and it expects underlying EBITDA would be between $1.5 billion-$1.6 billion. The company expects that the 2H FY 2019 would be lower than the corresponding period for FY18 on the back of price relief initiatives of $60 million, environmental certificate trading gains not repeated of $30 million and also due to the retail competition impacts and lower usage by the customer.


Managing Commodity Price Risk (Source: Company Reports)

The company expects the production from Australia Pacific LNG to be in the range of 665 to 685 PJs and expects to drill 250 to 300 operated wells (100 per cent share). Australia Pacific LNG is projecting an operating breakeven in the range of US$23 to 26/boe and a distribution breakeven in the range of US$39 to 42/boe. The company continues to expect that its capital expenditure or CAPEX, excluding Australia Pacific LNG and acquisitions, would be in the range of $385 to $445 million. Additionally, for FY 19, ORG expects oil and LNG hedging costs to be in the range of $190 - $210 million. The projection includes the oil hedging costs to range between $115 - $125 million, that includes $34 million oil hedge premium and LNG hedging costs is expected to be between $75-$85 million.

Stock Recommendation: On the daily chart of ORG, Exponential Moving Average or EMA has been used and default values were used for the purposes. It was observed that the company’s stock price has crossed the EMA and is moving in upward direction after crossover which reflects bullishness. Therefore, there are expectations that the company’s stock price might move in the upward direction.

Also, we expect that ORG would be supported by its decent growth momentum in cash receipts which it witnessed from the past few half years as it reflects its strong cash generation capabilities and it might place the company in a strong position to meet long-term growth prospects. Also, the company seems attractive from the valuations perspective at its price to book ratio stood at 1.0x (on TTM basis) as compared to the industry median (Utilities) of 1.4x. Its EV/Sales ratio is 1.3x while the industry median is 3.6x. These parameters reflect that ORG is undervalued, thus, providing an opportunity to invest at the current juncture.

On the backdrop of above factors and decent valuation parameters, we give a “Buy” recommendation on the stock at the current market price of A$7.420 per share (up 2.77% on 6 March 2019).


ORG Daily Chart (Source: Thomson Reuters)

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