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Rating Action:

Moody's assigns B1 CFR to Ithaca Energy and B3 rating to its proposed issuance of senior notes

08 Jul 2019

London, 08 July 2019 -- Moody's Investors Service ("Moody's") today assigned a B1 corporate family rating (CFR) and a B1-PD probability of default rating (PDR) to Ithaca Energy Limited ("Ithaca"). Concurrently, Moody's assigned a B3 rating to a five-year $700 million senior unsecured bond to be issued by Ithaca Energy (North Sea) plc and guaranteed on a senior basis by Ithaca and on a senior subordinated basis by certain of its subsidiaries. The outlook is stable.

The new ratings were assigned in the context of the planned acquisition of Chevron North Sea Limited ("CNSL") by Ithaca that is expected to close around the end of the third quarter of 2019, following approval of the acquisition by the UK Oil and Gas Authority. It is anticipated that the cash consideration payable at completion will be around $1.81 billion, after adjusting for an estimated $157 million working capital balance assumed by Ithaca and deducting estimated cash flows since the 1 January 2019 effective date of the CNSL acquisition of $350 million. The cash consideration is expected to be funded through (i) an equity contribution of $685 million from Ithaca's sole owner Delek Group Ltd. ("Delek"), $150 million of which in the form of a subordinated shareholder loan treated as 100% equity under Hybrid Equity Credit, Cross-Sector Rating Methodology, (ii) a five-year senior unsecured bond of $700 million, (iii) drawings of $1,050 million under a new five-year $1.65 billion RBL facility and (iv) cash on hand of $14 million.

RATINGS RATIONALE

The B1 corporate family rating (CFR) reflects the immediate positive effect the acquisition of CNSL's oil and gas assets will have on Ithaca's resource base and production profile tempered by the need the group will have to sustain investment in the future in order to secure access to new resources, replenish reserves and arrest the decline of its production profile.

The acquisition will add significant scale and greater diversity in terms of field exposure to Ithaca's asset base, even though it will remain 100% focused on the mature UK North Sea sector. Ithaca's 1P and 2P reserves will expand by approximately 273% and 144%, to 112 barrels of oil equivalent (mmboe) and 222 mmboe accordingly (v. 30 mmboe and 91 mmboe at year-end 2018). Concurrently, pro-forma the CNSL acquisition, Ithaca's production will rise 312% to 82.4 thousand barrels of oil equivalent per day (kboepd) in 2019 on a pro-forma basis v. 21.7 kboepd forecast for Ithaca on a stand-alone basis.

Moody's views positively the fact that CNSL is the operator of approximately two thirds of its assets and enjoys a well-established operational track-record. Approximately 75% of the combined group's 2P reserves will be operated by Ithaca post acquisition, which will give it control over the development and operation of the assets, and flexibility to defer work should the oil price environment significantly weaken.

Ithaca will be able to rely on Chevron's long standing UK North Sea organisation, which is largely operated as a standalone business. Chevron's UK team will transfer with the business, which should help ensure operational continuity and thereby mitigate the integration risks inherent to an acquisition that is very sizeable relative to Ithaca's existing operations. While CNSL has, in recent years, placed much emphasis on improving operational efficiencies amid a weak oil price environment, Moody's also acknowledges that Ithaca sees further opportunities post acquisition to streamline CNSL's organisation, simplify processes and improve cost efficiency.

However, Moody's notes that Ithaca will exhibit a short reserve life of 7.4 years on a 2P basis (3.7 years on a 1P basis) relative to peers. Based on 2P reserves as of year-end 2018, the group's combined production is projected to decline at an average rate of 7% p.a. in the five-year period through 2023, with CNSL's own output projected to fall at a CAGR of 11% p.a.. Despite the benefit from incremental low cost barrels, which Ithaca plans to produce from Greater Stella Area (GSA) subsea tiebacks, the combined group's unit operating cost per boe is forecast to rise from the mid teens into the low twenties in dollar terms by 2023, as CNSL's 2P reserves deplete.

In order to contain the decline in its production and rise in its unit cost, and sustain operating cash flow generation, Ithaca will need to successfully convert CNSL's 2C contingent resources, that are currently estimated at 46 mmboe, into producing reserves through the execution of the ongoing Captain EOR polymer injection programme, as well as infill drilling and near field developments/ subsea tiebacks. However, it will also likely have to make additional investments to continue replenishing its resource base.

Moody's expects that Ithaca will continue to enjoy the support of Delek, which views the role of its subsidiary as central to its strategy to diversify and grow its UK oil and gas business. Significantly, the funding mix of the acquisition includes an equity injection from Delek equivalent to approximately 38% of the deal consideration. Furthermore, Moody's understands that there will be no dividend paid by Ithaca prior to Q4 2020.

Post closing of the CNSL acquisition, Moody's expects Ithaca to have moderate leverage, with pro forma adjusted total debt to EBITDA close to 1.7x at 2019 year-end. Looking ahead, assuming $60 per barrel for Brent, 50 pence per therm for NBP gas and unit opex cost of around $16 per boe, Ithaca should generate annual EBITDA of around $800-900 million in 2020-2021. This takes into account the group's extensive commodity hedging programme, which is expected to leave around 70% of its production volumes hedged for the three and a half years following closing of the transaction, and the tax shelter afforded by the group's $2.2 billion UK tax allowances pool. Also, Ithaca's strong focus on cost management should enable it to achieve operational cost synergies with its existing portfolio.

With capex projected to average around $260 million p.a. in 2020-2021, Moody's expects Ithaca to generate a cumulative free cash flow (FCF) of around $1.0bn over the period. It should be able to pay down all of the acquisition-related drawings under the RBL and reduce leverage as measured by adjusted total debt to EBITDA to 1.2x by the end of 2021. This should provide Ithaca the financial flexibility to further invest into its resource base in order to sustain future production without departing from its prudent policy of keeping leverage at or below 2.0x through the cycle.

ESG CONSIDERATIONS

Environmental considerations are a material factor in this rating action. Whilst Moody's does not expect environmental issues (including decommissioning liabilities) to have a significant adverse effect on Ithaca's operating and financial performance in the next few years, cash outlays related to decommissioning obligations are projected to increase materially in the medium term, even though partly offset by tax relief arising from CNSL's tax history.

LIQUIDITY

Following the completion of the CNSL acquisition, Ithaca's liquidity profile should be underpinned by availabilities of around $260 million left under its new RBL facility, which is projected to have an initial borrowing base of $1.33 billion. The RBL facility incorporates a three-year grace period prior to starting to amortise on a semi-annual basis, and matures in 2024. As a result, Ithaca should have no mandatory debt repayment falling due before 2022, while Moody's expects the group to remain FCF positive under a range of oil and gas price assumptions.

STRUCTURAL CONSIDERATIONS

Ithaca's major borrowings, including the $1.65 billion RBL facility and $700 million senior notes, are guaranteed by essentially all of its producing subsidiaries. The two-notch differential between the rating of the senior unsecured notes and the CFR, reflects the substantial amount of secured liabilities outstanding under the RBL facility, which rank ahead of the senior notes within the capital structure.

The notes are senior unsecured guaranteed obligations but are subordinated in right of payment to all existing and future senior secured obligations of the guarantors, including their obligations under the RBL facility, which is secured by first ranking fixed and floating charges over all the assets of the borrower and the guarantors under the facility.

RATING OUTLOOK

The stable outlook reflects Moody's expectation that Ithaca will generate sizeable FCF in the next few years, which it will use to reduce debt and underpin its liquidity profile. This should help the group rebuild sufficient financial headroom to access and develop new resources in order to underpin its reserve life and future production profile. Moody's expects Ithaca to keep leverage as measured by adjusted total debt to EBITDA below 2 times on a sustainable basis.

WHAT COULD CHANGE THE RATING UP

While unlikely at this juncture, a rating upgrade would require that Ithaca (i) further strengthens its resource base so that it can lift its production above 100 kboepd and proved reserve life into the high single digits on a sustained basis; (ii) keeps leverage moderate with adjusted total debt to EBITDA below 2 times; and (iii) maintains a solid liquidity profile.

WHAT COULD CHANGE THE RATING DOWN

Conversely, the ratings could come under pressure should Ithaca fail to (i) generate sufficient free cash flow and materially reduce debt in line with Moody's expectation; (ii) rebuild the financial headroom necessary to access and develop new resources in order to sustain its production profile and maintain an adequate reserve life; and (iii) maintain at least adequate liquidity.

PRINCIPAL METHODOLOGY

The principal methodology used in these ratings was Independent Exploration and Production Industry published in May 2017. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

Ithaca Energy Limited is a UK-based independent exploration and production company with all of its assets and production in the United Kingdom Continental Shelf (UKCS) region of the North Sea. The company's growth strategy is focused on the appraisal and development of undeveloped discoveries while maximizing production from its existing asset base. In 2018, Ithaca's production averaged 16,072 boepd.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Francois Lauras
VP - Senior Credit Officer
Corporate Finance Group
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Peter Firth
Associate Managing Director
Corporate Finance Group
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Releasing Office:
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

No Related Data.
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