Although Rio Tinto Limited (ASX: RIO) and BHP Billiton Limited (ASX: BHP) have risen by 13% and 15% respectively this year, they are behind fellow resources stock Santos Ltd's (ASX: STO) gain of 29%. Here are three reasons why its shares could continue their strong performance.
Restructuring
Under new CEO Kevin Gallagher, Santos has restructured. It has a new Executive Team and will transition to a functional based organisational structure. This involves moving away from geographic based business units to an asset-focused model with strong technical capabilities in primary business areas such as production, exploration and development. This will boost productivity and drive long-term value for shareholders in a low oil price environment.
Allied to this is the disposal of the Kipper gas asset to Mitsui E&P Australia for $520 million. This streamlines Santos' operations and provides a cash boost alongside the $3.5 billion which was raised in the 2015 financial year.
Financial standing
Santos' financial outlook improved in financial year (FY) 2015. Its gross debt decreased from $8.3 billion in FY 2014 to $7.4 billion in FY 2015. This aided a reduction in net gearing from 88% to 73%. Further, Santos had $4.8 billion in cash and committed undrawn debt facilities available as at December 31, 2015, and has no material drawn debt maturities until 2019. Its credit rating has been maintained at investment grade by S&P and the weighted average interest rate on its debt fell to 4.07% in FY 2015 from 4.32% in FY 2014.
Santos reduced unit production costs per barrel by 10% in FY 2015 to $14.40 per barrel. It also cut first quarter (Q1) upstream production costs by 13% versus the corresponding quarter to $11.90 per barrel. It expects to make further cost reductions in the remainder of FY 2016. Alongside this, capital expenditure was reduced by 59% to $209 million in Q1. This eases the pressure on Santos' free cash flow, while a revised dividend framework which is a ratio of earnings makes its financial outlook brighter.
Oil price
The price of Brent oil has risen from a low of US$27 per barrel in January to its current price level of US$48 per barrel. It is forecast to continue to rise over the next two years to reach a price of US$78 per barrel by August 2018. Alongside Santos' increased production of 7% in FY 2015 and its Q1 production rise of 11%, this could boost profitability and positively catalyse its share price.
However, there can be no guarantee that the price of oil will rise. Santos remains a price taker and although its financial standing has improved and it has successfully restructured its business, its risk/reward profile remains unappealing.
