Tullow Oil (LSE:TLW) is a UK-based oil company. It focuses on developing hydrocarbon resources in nascent and frontier markets, primarily in Africa. The firm, as my PhD thesis explored, is also known for employing a more localised business model than some of its peers.
But the Tullow share price has dipped over the last year, while other oil companies have surged. So what’s going on here?
Debt and valuation
Tullow is a heavily indebted business. Net debt is $2,336m (£1,940m), and that’s very considerable for a company with a £488m market-cap.
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Such a sizeable debt burden can make it hard to value a firm. For example, it would have a forward price-to-earnings ratio around 1.7 — this is phenomenally low, but doesn’t reflect the impact of debt on the share price.
Valuing oil companies is also challenging because the calculation is dependent on oil prices. In 2023 — the very near-term — Tullow is forecasting free cash flow to come in at $200m, if the averaged achieved oil price is $100 a barrel, or $100m at $80 a barrel.
Higher oil prices have helped the firm bring debt down from $2.8bn in 2019. But net debt probably isn’t coming down quick enough for some investors.
Adding to these challenges is a tax dispute with Ghana. Last month, Tullow filed requests for arbitration with the International Chamber of Commerce in London over the $387m dispute.
At the time of writing, Tullow is trading at 33.6p, down from highs above 60p last year.
Positive catalysts?
Brent is still around $83 per barrel, but in the ever-changing world, it’s now looking like crude prices could push upwards this year.
This week’s big catalyst was Chinese PMI data, which came in far above estimates, at 52.6. The data suggested that Chinese factory activity had grown at its fastest in over a decade during the month of February.
In a stronger-than-expected global economy, with Chinese GDP growth pushing closer to 6%, according to some forecasters, we could see demand outstrip supply.
However, there are plenty of variables here. We know US stockpiles are higher than anticipated on a warmer-than-average winter. US oil inventories rose by 6.2m barrels in the week ended 24 February, and this data actually pulled spot prices down after the Chinese PMI data.
Despite this, I’m still expecting to see oil prices grow as the year continues — I’m not the only one. “Another round of upside surprise in China’s PMI further provides conviction of a stronger-than-expected recovery, which supports a more optimistic oil demand outlook,” said Yeap Jun Rong, market strategist at IG.
So would I buy this stock? Actually, it’s very tempting. JP Morgan set a target price of 56p for the company which, compared to the Tullow Oil plc share price of 33p, infers a 40% upside. Jefferies also has a price target of 48p, despite being down from 77p, is still some way above the current price.
With all this in mind, and my bullish outlook for oil, I’m looking to buy Tullow when I have the funds available.
