Faroe Petroleum Annual Report 2017

Chairman's and Chief Executive's statement

Faroe's consistent strategy of creating value through the drillbit has delivered another yearof strong progress and reserves growth.

Year-on-year reserves grew by 20% and in the last five years reserves have grown by more than 400% – mainly as a result of maturing our discoveries into attractive development projects. This strategy continues in 2018.

With an average finding cost in Norway of approximately $1.20/boe, Faroe has developed a compelling route to sustainable value creation for the Company. We look forward in 2018 to drilling up to six exploration and appraisal wells and progressing our material programme of several high-quality developments in order to deliver a significant ramp-up in production in the coming years.

Faroe's exploration is backed by a solid and diverse production base with healthy cash flow – in 2017 Group production of 14,349 boepd generated EBITDAX of £82.2 million. Following the debut issue of a $100 million senior unsecured bond in November 2017, the part-divestment to Suncor in February 2018 of 17.5% of Fenja for a cash consideration of $54.5 million, and with an undrawn $250 million RBL credit facility together with a NOK 1 billion EFF facility, Faroe is now fully funded for all programme investments including the pending Brasse development, at 50% equity. The Company is also in a strong position to invest in new value-accretive developments and potential M&A activity.

Brasse project underpins Faroe's strategic focus on near-field exploration, appraisal and development

The Brasse licence in the Norwegian North Sea, operated by Faroe with a 50% equity stake, was awarded to Faroe in 2015 in the APA 2014 round. In the following summer of 2016 an exploration well and side-track were drilled, discovering material oil and gas volumes in a high quality reservoir.

In the summer of 2017, appraisal drilling, including a drill stem test, was undertaken, proving up an increase in recoverable hydrocarbons of approximately 20%. By the end of 2017, development project feasibility was confirmed and Faroe booked net 2P Reserves of 30.7 mmboe. The concept selection phase has commenced with PDO submission expected in 2019. Gross plateau flow rates for the field have the potential to reach 30,000 boepd.

The Brasse field is now a core project with attractive economics, robust at low commodity prices. Brasse's close proximity to competing nearby infrastructure combined with its prolific reservoir qualities and location in shallow water will allow the field to be developed expediently and cost effectively. Significant further exploration and appraisal upside remains to be pursued in the licence and adjacent licence extensions recently awarded to Faroe.

The Brasse success underpins Faroe's strategic focus on near-field exploration and appraisal opportunities as we continue to pursue our consistent exploration-led business model. The Brasse project also establishes Faroe as a dynamic operator on the Norwegian Continental Shelf with less than three years passing from licence award to the booking of 2P Reserves on the field.

Growth pushing ahead with two field PDOs approved in 2017 and a further PDO submitted for approval

In May 2017, the Oda partnership (Faroe 15%) received PDO approval from the MPE for development of the Oda oil field. Oda, located in the shallow waters of the Norwegian North Sea, and operated by Spirit Energy (formerly Centrica E&P and Bayerngas), is being developed as a four-slot seabed template with a subsea tie-back to the Ula platform (Faroe 20%) and will connect to the existing pipeline between Oselvar (Faroe 55% and operator) and Ula, using the Oselvar facilities at the Ula platform. Production from Oselvar is due to cease in Q2 2018 to allow the Oda tie-in to be undertaken, with the Oselvar partners being financially compensated accordingly. As part of that compensation, Faroe has already received in H1 2017 an initial net receipt from Oda partners of £7.8 million (net of Faroe's share, as an Oda partner, of compensation payments to the Oselvar partners) with further net compensation receipts to Faroe due in the coming months. First oil from Oda is scheduled for H1 2019.

MPE approval of the PDO for the Statoil-operated Njord Future Project and Bauge field (Faroe 7.5%) was granted in June 2017. The Njord Future Project together with the Bauge subsea tie-back are on budget and on timetable and production commencement is scheduled in 2020.

In December 2017 the PDO was submitted for the Fenja field in the Greater Njord Area (Faroe will hold 7.5% following completion of the recently announced partial sale to Suncor Energy Norge AS), comprising three horizontal production wells, one gas injector and two water injector wells. Fenja will be tied back to the Njord A floating production facility for processing and export via the Njord B FSO (floating storage and offloading vessel). The Fenja licence partners are planning to invest NOK 10.2 billion (approximately £900 million) with planned production start-up in Q1 2021 and a planned field life of 16 years.

Faroe continues to make significant investments in boosting production through infill drilling on the Tambar and Brage fields. On Tambar (Faroe 45%) the redevelopment project, encompassing infill drilling and a gas-lift installation, is making good progress with the first of two new Tambar wells on stream and the second expected very soon, and two new Brage (Faroe 14.3%) wells also brought on stream.

Successfully monetising discoveries through divestment

In February 2018 we announced the sale of a 17.5% working interest in the Fenja development, located in PL586 in the Norwegian Sea, to Suncor Energy Norge AS for a post-tax cash consideration of $54.5 million. Upon completion, Faroe will retain a 7.5% stake in the Fenja development, underlining our support for the project, and aligning Faroe's equity

at 7.5% across the entire Greater Njord Area, encompassing Fenja, Njord, Bauge and Hyme, constituting one of the most significant oil and gas investment projects underway offshore Norway. The transaction is expected to reduce Faroe's future capital expenditure on Fenja from £230 million to approximately £70 million, based on the operator's gross projected development cost of NOK 10.2 billion. As detailed in the PDO, the operator, VNG Norge AS, expects total gross recoverable reserves on Fenja of approximately 97 mmboe (70% of which is oil). The transaction, which has a 1 January 2018 effective date, is expected to complete in 1H 2018.

This transaction marks a major milestone for Faroe, which has so far taken Fenja through exploration and appraisal drilling to the pre- development phase and further validates Faroe's business model of generating

strong shareholder returns through exploration. Having held a significant interest in PL586 from its discovery, Faroe has now realised cash returns through this partial-monetisation, while retaining exposure to future cash flows from Fenja. Importantly, the transaction also frees up capital for investment in Faroe's flagship Brasse field which is expected to commence development in 2019, such that Faroe is fully funded for Brasse at its current 50% equity level.

Production portfolio performing well

Faroe's production portfolio performed very well in 2017, delivering net average production of 14,349 boepd in 2017 with an average opex per boe of $26.5 for producing fields. Faroe's production is spread across a balanced and high quality portfolio of assets with an approximate geographic volume split currently of 80%/20% Norway/UK and an oil/gas split of 55%/45% respectively.

The production portfolio generated EBITDAX of £82.2 million, including the compensation payments recognised at Oselvar following Oda PDO consent in the period. Faroe has benefited from higher oil prices in 2017, and so far in 2018, as well as stronger gas prices. We continue to hedge a significant portion of production and currently have hedged to end-2018 approximately 60% of oil production with put options with an average floor of $57 per barrel and 80% of gas production at an average price of 42p/therm, again mainly with put options (all on a post-tax basis).

Faroe's medium-term objective, as it unlocks value in its portfolio, is to reduce unit opex and full-cycle costs further, such that the Company grows increasingly profitable and robust. With a fully funded pipeline of ongoing investments in developments and producing fields, together with the maturing of existing discoveries, we are on target to reach our objective of more than doubling production to over 35,000 boepd in the medium term.


Faroe now has an asset base with clear line of sight to deliver material growth in high value production to over 35,000 boepd on an organic and fully funded basis. We also expect to add further new organic projects to this growth plan through maturing a number of discoveries and infill wells as well as potential new discoveries generated from our ongoing exploration programme.

At the core of our value creation model, we actively manage our exploration portfolio in order to maintain a significant ongoing drilling programme from prospects matured in the portfolio. Faroe's exploration track record has been exceptional, with finding costs in Norway around $1.20/boe. We are set to ramp up our E&A drilling in 2018 and 2019 with a total of six exploration and appraisal wells already scheduled, all capitalising on competitive rig rates and Norwegian State tax incentives, through which 78% of exploration and appraisal costs are recovered.

Faroe has an outstanding team of professionals, committed to the Company's ethos and strategy, and we are very grateful for their commitment and excellent achievements. Complementing our team and successful exploration model, Faroe also has a strong track record of growth through M&A, and we aim to capitalise on these strengths together with our excellent strategic and financial position, as we pursue value-accretive M&A opportunities in our core areas.

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