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Raising external capital to drive NOC transformation

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The coming years will be defining for NOCs as they fully embrace the need to embark on capital transformation. New capital can provide the catalyst to return the country’s finances to an equilibrium and act as an engine to drive greater economic diversity.

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Raising external capital to drive NOC transformation

  1. 1. Raising external capital to drive NOC transformation
  2. 2. Page 2 Raising external capital driving NOC transformation National Oil Company (NOC) transformation journey For many emerging economies heavily dependent on oil revenue, the dramatic fall in prices has unleashed a chain reaction with far-reaching consequences on Government budgets, sovereign investment, economic development incentives and, critically, on subsidy support and social welfare programs. This is increasing the pressure on NOCs to transform the way they operate and change the very nature of their relationship with the State. The coming years will be defining for NOCs as they fully embrace the need to embark on capital transformation. Seeking new capital can provide the catalyst to return the country’s finances to an equilibrium and act as an engine to drive greater economic diversity, making sure that the company’s growth and development translate into more general economic growth for the country.
  3. 3. Page 3 Raising external capital driving NOC transformation The eight critical aspects for NOC transformation NOCs of the future need to understand and address the aspects of their transformation to successfully deliver both quality of earnings and contribution to the State. Internationalization Funding People capabilities and skills development Enabling technology Vertical integration Autonomy Revenue streams and diversification Balancing national versus commercial objectives NOC transformation In this deck, we consider the requirements for raising external capital, particularly through an IPO, and how these requirements can drive the transformation process
  4. 4. Page 4 Raising external capital driving NOC transformation The key stakeholders in the NOC transformation journey Key stakeholders NOC as the company How will the NOC work, what role will it play and what will be its relationship with the State 01 Government as regulator of industry How will the (new) Government regulatory body operate and manage the regulatory burden and competing priorities of parties 02 Government as shareholder What will be the NOC’s financial contribution and overall contribution to the wider economy 03
  5. 5. Page 5 Raising external capital driving NOC transformation Raising external capital provides the opportunity to transform the industry and the NOC Government ► External financing will assist in moving away from Government funding/subsidy ► Improvements in transparency from increased scrutiny and reporting requirements ► Increase in accountability and operating efficiency ► Focus on GDP generation instead of political and national objectives ► Optimization of the overall tax and regulatory regimes for the benefit of the State, NOC and potential investors Company ► Access to fresh capital to replace Government funding ► Flexibility in decision-making and improvements in optionality ► Enhanced ability to attract, retain and reward valued employees through share option plans ► Opportunity to bond and incentivize key people with long-term incentive plans Government ► Time-consuming: board members at lender meetings, road shows, investor relations tasks, periodic reporting ► Restrictions on management’s freedom of action, e.g., approval required from supervisory board or shareholders for important issues; new investors with voting rights ► Firewall between NOC resources and Government Company ► Time-consuming: board members at road shows, investor relations tasks, periodic reporting ► Restrictions on management’s freedom of action, e.g., approval required from supervisory board, bondholders or shareholders for important issues; new investors with voting rights ► Potentially strict corporate governance requirements ► Greater transparency and potential loss of control or confidentiality concerning sensitive information due to reporting requirements in investor reports ► Shareholder expectations may increase pressure on management to achieve performance targets Pros Cons
  6. 6. Page 6 Raising external capital driving NOC transformation Realistic and executable strategy Tax and legal structure — legal protection and governance rights Capital structure Return drivers Corporate governance — quality of management Quality of assets Access to cash flows Liquidity Transparency Some of these areas trigger different levels of requirements, ranging from less to more onerous, depending upon the type of external finance sought Key areas to address when seeking to attract external capital providers Quantifiable and manageable risk
  7. 7. Page 7 Raising external capital driving NOC transformation Key types of external capital Project financing Corporate/reserve- based lending Private capital — strategic/JV Private capital (e.g., SWF) Convertibles Public bond IPO Advantages Ring-fenced from the NOC No or limited recourse Limited compliance burden Relatively cheap Strategic insight plus capital Knowledge transfer Deep pool of capital Longer term horizon Can be cost- effective Risk profile flexible Deep markets Cost-effective Creates liquidity Enables other options Disadvantages Expensive and time- consuming to implement, and requires a high degree of certainty Volatile (links to oil price) Availability varies Can reduce optionality Onerous to establish Additional disclosure External influence Line of sight to IPO External influence Public reporting requirements Other compliance External control/influen ce Compliance burden Less onerous Individual capital options or stage gates on the journey to an IPO More onerous
  8. 8. Page 8 Raising external capital driving NOC transformation Attracting external capital drives a range of requirements for all key stakeholders Project financing Corporate/reserve- based Lending Private capital — strategic/JV Private capital (e.g., SWF) Convertibles Public bond IPO Strategy, legal and capital structure Requirement to demonstrate equity story and growth strategy based on leading NOC practices No, but standalone working capital facilities would be required No, but reserve reporting and cash flows will be required No, but business plans will be needed No, but business plans will be needed No, but path to IPO should be clear Defensive cash flow case will need to be presented during investor ‘road show’ Integrated equity story/returns and growth case need to be presented during investor ‘road show’ Ability to communicate a quantifiable strategy and convert that into annual guidance to be measured against No No, but regular checks of reserve model or covenants may be required No No No, but strategy to support convertible economics will be needed Yes, as will be subject to rating agency scrutiny Yes, as will be subject to extensive equity analyst and investor scrutiny Legal structure change to benefit investors or for indexation No No, but may use a captive finance vehicle May be specific JV requirements No No No, but may use captive finance vehicle Yes Internal and external financial reporting IFRS reporting and benchmarking of accounting policies Not mandatory Not mandatory, but may be required by covenants JV may need to report in partner GAAP Likely to be IFRS requirements for SWF reporting Likely Yes Three-year audited IFRS track record Accelerated financial closing and reporting timetable No No No No No Likely to be required due to stock exchange requirements Likely to be required due to stock exchange requirements Half-year or quarterly reporting Not formal, but may be required by covenants Not formal, but may be covenant requirement Consistent with partner requirements Consistent with SWF requirements Yes Yes Half-year reporting required Corporate governance, systems and controls Risk assessment, reporting and internal audit No No No No No Possible Likely to be required due to stock exchange requirements Board reorganization No No No Investor may require board representation No No Formal board and subcommittee composition requirements Full disclosure and reporting of transactions with related parties No No No No No Commentary likely to be included in prospectus/notes to accounts Yes. Relationship agreement may also be required with main shareholder Formalized reporting structure, reporting lines and policies around disclosure of sensitive information No No Likely to be covered by JV agreement May be SWF requirements No Likely to be required due to stock exchange requirements Likely to be required due to stock exchange requirements MoreexternallyfacingMoreinternallyfacing
  9. 9. Page 9 Raising external capital driving NOC transformation The NOC will need to demonstrate its strategy to become a leading NOC and demonstrate a compelling equity story Basic Developing Established Advanced Leading NOC is funded by production revenue and Government subsidies only NOC is funded by production revenue, Government subsidies and also has access to external development finance NOC is funded by production revenue, external commercial finance and equity investors NOC is funded by a combination of external commercial finance, equity investors and/or production revenue NOC is funded by a range of internal and external sources and uses its treasury function to manage its cost of capital and risk Funding
  10. 10. Page 10 Raising external capital driving NOC transformation Three key funding mechanisms for NOCs 1 Project financing 2 Bond markets 3 IPO
  11. 11. Page 11 Raising external capital driving NOC transformation What does good project financing for an NOC look like Although obtaining project finance does not carry the same level of requirements as planning for an IPO, there are still many factors which should be addressed to get access to the global capital markets, get the best deal and manage a successful project. Mature projects will typically have multi-stakeholder equity participation, a substantial SPV, established public credit ratings and full project finance and governance models and procedures. Funding structure ring-fenced Project Equity story/strategy and framework Stand-alone project finance structure Reporting/project monitoring Credit ratings Financial risk management framework Strategic factors to address “ “
  12. 12. Page 12 Raising external capital driving NOC transformation Accessing financing through bond markets Whilst public bond issuance requires significant disclosure, albeit not as onerous as an IPO process, such disclosure and access to global bond markets does convey credibility to the international investment community. Even at a minimum, 3 year historic financials would likely be required and with no public credit ratings and a less developed risk framework leaving notable credit risks, a secured bond issuance will typically have onerous restrictions on additional financing. Whereby successful bondholder financing will include established public credit ratings, extensive historical disclosure, comprehensive risk factors framework and will avoid typically onerous restrictions on additional financing. Liquidity requirements Funding currency requirements Credit ratings Establishing international capital markets credibility Corporate governance Sanctions/other regulatory matters Strategic factors to address “ “
  13. 13. Page 13 Raising external capital driving NOC transformation Raising capital through an IPO requires the company to be IPO-ready Early stage Mid-stage IPO-ready Equity story Strategic direction Strategic direction and budget Integrated strategy, plan and financing Financial history Local GAAP Consolidated accounts IFRS three-year record Group structure Legacy businesses Rationalised Efficient tax and legal structure Related party transactions Overlap and confusion Company accountability Clean full year Forecast financial information Cash-based annual plan Accrual-based forecasting Reliable capital forecasts Tax position Unidentified risks Assessed risks Mitigation and disclosure strategy Title Assumed Assessed Attested Financial control and governance Proprietor discipline Professional management Governance procedures Strategic factors What does IPO-ready look like Robust equity story aligned to a differentiated strategy consistent with the asset portfolio supported by a credible management able to articulate the strategy in a public equity- friendly way Equity story A funding structure consistent with the strategy set out in the equity story that is able to weather all aspects of the commodity cycle Funding Clear and transparent shareholder and corporate structures with straightforward business models are more attractive to investors Stand-alone corporate structure The amount of the offering and the use to which the proceeds are put will be evaluated by investors. Forecasts and plans will be required as part of the listing process Use of proceeds A strong management team with track record of having delivered on plans on time and on budget. New board structures and governance processes will need to be put in place Corporate governance Sufficiently robust stand-alone reporting systems and controls to comply with regulatory requirements Accounts and information systems The IPO readiness assessment is the first step in the IPO value journey …
  14. 14. Page 14 Raising external capital driving NOC transformation Considerations for the NOC as the company 1 2 3 4 5 6 7 8 9 10 IPO planning IPO execution IPO realization ► Does a financial investor relations function exist? ► Non-core/non-commercial activities that may depress earnings and valuation ► Availability of distributable reserves to support dividend policy ► Structure of balance sheet once listed ► Development of the equity story Banking ► Can the business produce its external reporting on a timetable that meets the regulatory requirements in the listing jurisdiction? ► Are the accounting policies currently applied and the levels of disclosure given in line with the international peer group. ► Are the current forecasting processes fit for purpose and in line with those we would expect from a listed business? ► Is the internal financial reporting harmonized with the external reporting, enabling the business performance to be monitored on like- for-like basis? ► Is the management data produced on a timely basis in order to allow the business to be monitored effectively? ► Can data be accessed from JVs on a timely basis in order to understand performance? Financial and taxation ► Loss of competitive position due to increased disclosure ► Lead time on reservoir reporting if external MER required (and ability of any MER to do it) ► Timing and complexity of separation from existing parent ► HSE reporting and required public HSE reporting — e.g., sustainability reporting Operational/commercial ► Suitability of governance framework for various exchange requirements ► Requirements to disclose details of senior management and board remuneration Legal/regulatory
  15. 15. Page 15 Raising external capital driving NOC transformation Considerations for the Government as regulator of industry 1 2 3 4 5 6 7 8 9 10 IPO planning IPO execution IPO realization ► Develop a well-defined purpose ► Establish a core set of attributes to which strategic priorities should be aligned ► Develop an organizational culture around the core set of attributes ► Build human capital that maintains technical competence, ensures empathetic engagement and continued commitment to professional and public integrity ► Involve public in the operationalizing regulatory excellence and identifying management priorities ► Set a strategic approach to performance measurement and evaluation ► How will any subsidy reform impact on the new company and how will competing priorities of shareholders and Government be managed? Policy and Regulation ► What will be the governance structure and will this be able to manage increasing velocity of information and change? ► Is the data to be produced by the company of a quality that will support regulatory excellence ► Is the current employee skill set able to meet the changing regulatory role demands ► What will be the right performance measure to drive the desired industry behaviors and outcomes? ► How will noncompliance with regulations be managed, and what fees or fines will be implemented for violations of environmental, financial and HSSE guidelines? Governance ► What type of ERM framework will be put in place to evaluate and regulate risks to the economy, environment and society and future opportunities, and threats to performance goals? ► How will access to and analysis of data be managed, and how will information be made accessible to all stakeholders without increasing the vulnerability to security threats? Risk and reputation management ► Is the framework in place to set up a new “contact with the State” that defines the new nature of the relationship ► What level of foreign ownership is proposed? ► Is there a wider policy to attract investment ► Are there efficient concession processes in place to increase sector attractiveness and maximize new capital? Internationalization and diversification
  16. 16. Page 16 Raising external capital driving NOC transformation Considerations for the Government as shareholder 1 2 3 4 5 6 7 8 9 10 IPO planning IPO execution IPO realization ► Does the Government have an appropriate stewardship function to act as shareholder in a publicly listed entity ► Has the Government relied on the NOC for any functions that need to be accommodated in the Government post IPO? ► Has the cost of required Government capacity building been taken into account in assessing the costs and benefits of the IPO Capacity building ► Is the business preparing sufficiently to meet external reporting requirements and produce forecasts that can be relied on for Government budget planning ► What implicit subsidies are currently in place, and what is the cost of their removal prior to IPO ► Will the aggregate flow of funds to investors including the share retained by the State post- IPO adversely impact the fiscal or external balance of the State ► Will the raising of external debt finance by the company be subject to any State-imposed limitation Financial and taxation ► Has the NOC developed a compelling equity story to support demand and valuation ► Is senior management appropriate for a publicly listed entity? What capability gaps need to be filled? ► Have the relationships with other trading commercial entities within the entire hydrocarbon value chain been put onto an arm’s-length basis ► How will subsequent company growth be translated into more general economic growth for the country in wider commercial areas to support State industrialization and economic diversification Operational/commercial ► Is the framework in place to set up a new “contract with the State” that defines the new nature of the relationship? What valuation impact will this have? ► What level of foreign ownership is proposed ► What level of ongoing influence is the Government targeting, and what impact will this have on demand and pricing for the IPO ► How will relationships with other parts of the Government or State-held entities be regulated? Will this lead to any value leakage, and what impact will this have on demand and pricing? Legal/regulatory
  17. 17. Page 17 Raising external capital driving NOC transformation Managing the IPO process Our approach to the IPO diagnostic process is set out below. It commences with a workshop where we would work together with your management team to understand the context of the transaction and brief them on an IPO process. IPO assessment workshop IPO requirements Diagnostics IPO diagnostic report 1 2 3 4 ► Motivation and infrastructure ► Reporting and finances ► IPO objectives ► Private placement ► Listing requirements ► Prospectus directive ► Gap analysis ► Follow-up workshops for individual areas ► Standardizing of current position versus what is required to be IPO-ready ► Suggested approaches and actions for closing gaps Approach Diagnostics: We compare the target structure with your current position to identify gaps. Analysis: In individual follow-up meetings and research, we help you clarify what is needed to close the gaps in terms of time, content and resources. Report: These results will then be documented and presented back to the management team. Assessment: Based on the results from the findings of the IPO readiness assessment workshop, we develop an initial set of recommendations in line with your Stated IPO objectives.
  18. 18. Page 18 Raising external capital driving NOC transformation The EY Global IPO Center of Excellence puts our know-how at your fingertips Use this virtual central hub to access all of our IPO knowledge, experience and resources in one easy-to-use source Easily access the power of EY global IPO network IPO readiness and preparing for an IPO Alternatives to an IPO Cross-border listings Find details and register for upcoming EY events Explore the activity on the IPO markets worldwide with “EY insights: facts & figures” Find out more at ey.com/ipocenter
  19. 19. Page 19 Raising external capital driving NOC transformation What you can expect when working with EY ► We make it our business to understand your business and to keep our advice relevant to your needs. ► We work with you as you transform your business, helping you anticipate the pitfalls and lock in the results on which your future depends. ► We work with the leading companies in the oil and gas industry. This broad and deep exposure means we understand the dynamics of the sector and the underlying drivers of the leading actors. ► Our global sector is committed to providing industry insight that creates value for you. It connects our oil and gas professionals worldwide and serves as a hub for sharing industry-focused knowledge to help you succeed in a changing world. At a glance Why choose EY? EY is known for its deep oil and gas sector knowledge, relationships with the industry’s key stakeholders and strong global capabilities. Clients see us as the most globally connected organization among the Big Four. Whether you are already active in multiple geographies or are planning to expand your business to other countries, we can assemble a multinational team that combines deep industry knowledge, experience resolving the issues you are facing and savvy local advice. Oil and gas is one of EY’s primary sectors. Our Global Oil & Gas Sector is dedicated to offering industry insight and coordinating a network of more than 10,000 oil and gas professionals who are ready to develop practical approaches to the assurance, advisory, tax, transactions and finance-related issues you face. Contacts Andy Brogan +44 207951 7009 abrogan@uk.ey.com Paul Navratil +971 2 417 4400 Paul.Navratil@ae.ey.com
  20. 20. EY | Assurance | Tax | Transactions | Advisory About EY EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. We develop outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical role in building a better working world for our people, for our clients and for our communities. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit ey.com. How EY’s Global Oil & Gas Sector can help your business The oil and gas sector is constantly changing. Increasingly uncertain energy policies, geopolitical complexities, cost management and climate change all present significant challenges. EY’s Global Oil & Gas Sector supports a global network of more than 10,000 oil and gas professionals with extensive experience in providing assurance, tax, transaction and advisory services across the upstream, midstream, downstream and oil field subsectors. The Sector team works to anticipate market trends, execute the mobility of our global resources and articulate points of view on relevant sector issues. With our deep sector focus, we can help your organization drive down costs and compete more effectively. © 2017 EYGM Limited. All Rights Reserved. EYG no. XXXXXX BMC Agency GA 1005168 ED None This material has been prepared for general informational purposes only and is not intended to be relied upon as accounting, tax or other professional advice. Please refer to your advisors for specific advice. ey.com/oilandgas/nocs Follow us:

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