why the reluctance, page-15

From Macxquarie Bank this morning:

Oil Search
Focus shifting to the LNG project

--------------------------------------------------------------------------------
Volatility Index: High
Recommendation: Outperform

Price 28 Jan 10 $5.36
Event
Oil Search (OSH) reported Fourth Quarter production and revenue of 2.2 millions of barrels oil equivalent (mboe) and U$192.8m respectively, both broadly in-line with our forecasts. Revenue was supported by the unwinding of some of the large under-lift accumulated during First Half 2009.
Impact
LNG project remains on track: While the operational performance in Fourth Quarter was in line with guidance, OSH will be driven by news surrounding the LNG project, which appears to be on-track with the final heads of agreement (HOA) with CPC of Taiwan expected to be converted into a binding HOA shortly, enabling the project to declare financial close during First Quarter 2010.
Potentially interesting oil discovery in PNG: OSH has deepened an existing well on the Agogo field, which has encountered a complex oil bearing reservoir - this find will be production tested over coming weeks and if successful could add around 10A cents per share to our net asset value of A$8.31/share.
OSH continues to grow its exploration footprint in PNG: OSH completed 2 acquisitions during Fourth Quarter, raising its interests in two key offshore blocks containing the Pandora discovery and the mature Flinders prospect each of which could potentially be put through expansion trains of the PNG LNG project in the future. Meanwhile the Korka well is now expected to be drilled in Second Quarter due to delays with the previous wells in the drilling schedule.
2010 guidance given: OSH expects 2010 production to decline 10% y/y due to mature field decline and the decision to conserve associated gas in the oil fields for the LNG project rather than flare it. Also unit operating expenditure is expected to remain high in light of the strong PNG Kina and cost inflation in PNG. Meanwhile, unit depletion, depreciation and amortisation (DD&A) is expected to fall around 50% as the oil fields incorporated in the LNG project can now be depreciated over a longer life.
Earnings and target price revision
We have raised our 2009 earnings forecasts by 13% to U$97m due to a lower than forecast exploration expense and the tax benefits associated with the government back-in to the PNG LNG project (our 2009 cash flow forecasts have only increased 4%).
In 2010 we have cut our earnings forecasts by 6% to reflect guidance of lower production and higher unit operating expenditure and a higher forecast exploration expense. In terms of cash flow, we are only lowering our forecasts by 3%.
Price catalyst
12-month price target: $8.30.
Catalyst: OSH reports its 2009 financial result on 23rd February
Action and recommendation
We retain our Outperform rating and A$8.30/share target price. This view is predicated on OSH's attractive yet transparent valuation, the obvious quality of the PNG LNG project, the company's now fully funded status, the significant potential for additional trains in due course and the attractive value OSH offers to a potential acquirer looking for a strategic holding in a tier 1 LNG project that has now been de-risked.

--------------------------------------------------------------------------------