I have covered Golar LNG (GLNG) previously, so investors should view this as an update to my earlier articles on the company.
Shares of leading liquid natural gas player Golar LNG have been on a tear as of late as the company was preparing for a $450 million IPO of subsidiary Golar Power, a joint venture with Stonepeak Infrastructure Partners (“Stonepeak”). Earlier this month, Golar Power was renamed to “Hygo Energy Transition” (“Hygo”) likely in a move to attract, once listed, retail investors looking for asssumed green investments. The shares were expected to list on Nasdaq under the ticker “HYGO”.
Fellow contributor Donovan Jones has already discussed the company’s background and registration statement in great detail. Investors unfamiliar with Golar LNG and particularly Golar Power / Hygo Energy Transition should start there.
Photo: Sergipe Power Plant – Source: bnamericas.com
After the IPO documents filed with the SEC last week revealed a targeted $2.5 billion valuation, Golar LNG’s shares added another 13.5% on top of a multi-month recovery rally which caused the stock price to double from multi-year lows set in April after customer BP (BP) claimed force majeure on the company’s key “Gimi” FLNG conversion project.
Photo: Gimi FLNG vessel under conversion at Keppel Shipyard in Singapore – Source: Offshore-Mag.com
With Golar LNG’s 40.6% stake in Golar Power / Hygo Energy Transition (after accounting for new shares to be issued in the IPO) apparently worth $1 billion or approximately $10 per Golar LNG share, the company’s remaining assets like its LNG tanker fleet and FLNG projects were assigned very little value despite generating meaningful EBITDA thus rendering the shares an obvious bargain.
But over the course of this week, Golar LNG’s shares sold off by almost 30% on no apparent reason until Thursday’s news hit (emphasis added by author):
The Federal Police carried out 25 search and seizure warrants regarding the 75th phase of “Operation Lava Jato,” or “Operation Car Wash,” the ongoing criminal investigation by the Federal Police of Brazil, according to a translation of a report from Globo. The current phase investigates whether the shipping company Sapura in Brazil paid $40M in bribes for a $2.7B contract with Petrobras, said the translated report. According to the Federal Public Ministry, Sapura hired lobbyist Mauricio Carvalho to get inside information from Petrobras and help formulate the winning proposal and Carvalho passed on the information to Eduardo Navarro Antonello, who at the time represented the Seadrill Group, the report said. The two companies and the two investigated were targets of search warrants, added Globo. Following the report, Golar LNG Limited has said: “The company is aware of the allegations that have been made against Hygo’s Chief Executive, Eduardo Antonello. The allegations against Mr. Antonello involve conduct that predates and do not, in any way, implicate his work at Hygo. However, in an abundance of caution, Hygo has initiated a review to seek to confirm that there have not been any deviations from its culture of compliance in connection with Mr. Antonello’s service to Hygo.
Reuters later reported that the IPO has been suspended.
While the allegations against Hygo Energy Transition’s CEO obviously pertain to his time at Seadrill (OTCQX:SDRLF), the issue nevertheless represents a worst case scenario for Golar LNG as the company is required to conduct an IPO for Golar Power / Hygo Energy Transition by June 2021 or otherwise face substantial penalties (emphasis added by author):
In July 2016, the Company closed a subscription of 20 million preference shares to Stonepeak for net proceeds of $95.7 million. The preference shares have no voting rights, have priority over the dividend rights of any other class of shares and contain the following significant features:i.each preference share holder has the right to, in cash, an annual fixed cumulative preferential dividend out of the profits of the Company available for distribution at a rate of 8.5% of the $5.00 par value of the share, payable semi-annually, which commenced six months after the subscription by Stonepeak of the preferred shares;ii.the preference shares may be redeemed at the Company’s option, any time prior to the date of an IPO at the Redemption Price;iii.in the event of an IPO, and assuming no prior redemption of the preference shares, the preference shares will be converted automatically into fully paid ordinary shares of the same par value at the Mandatory Conversion Rate upon the date of such IPO;iv.in the event that an IPO has not been consummated by after the fifth anniversary date of the completion of the subscription for the preference shares:a.the rate of the preferential dividend will increase from 8.5% to 11.5% per annum; andb.at Stonepeak’s option, the preference shares will convert into fully paid ordinary shares of the same par value at the Mandatory Conversion Rate, and the Company will be required to redeem the converted preference shares within six months at the Redemption Price.
As explained on page F-36 of the company’s recently amended F-1 filing with the SEC, the mandatory conversion rate is defined as 1.00 fully paid ordinary Share for 1.20 preference shares. Accordingly, Stonepeak would receive 16.67 million new Hygo shares upon conversion which Hygo Energy Transition would be required to redeem within six months at a price of $10 per share. This does not include approximately $41.5 million in accrued and unpaid dividends on the preference shares.
Unfortunately, Hygo does not have the funds to redeem the converted preference shares. At the end of Q2, the company had only $74.6 million in unrestricted cash and was facing substantial capital expenditures for some of its growth projects in Brazil as evidenced by the proposed use of the IPO proceeds (emphasis added by author):
We intend to use the net proceeds to fund (i) $80.0 million of capital expenditures related to the Barcarena Terminal and acquiring all remaining outstanding equity interests in the Barcarena Terminal (which would give Hygo a 100% indirect equity interest in both CELBA and CELBA 2), (ii) $40.0 million of capital expenditures related to the Santa Catarina Terminal and (iii) $180.0 million to be paid to Stonepeak in redemption of the preference shares in the Recapitalization, which amount includes accrued and unpaid dividends of approximately $41.5 million. We intend to use the remaining net proceeds of $120.9 million for working capital and general corporate purposes.
But even if Stonepeak won’t exercise its conversion and subsequent redemption option, the preferential dividend would nevertheless increase from 8.5% to 11.5% and Hygo would still require additional capital for its growth projects.
Moreover, Stonepeak currently holds 50% of Hygo’s common shares:
At any time after the fifth anniversary of the completion of the subscription for the common shares, if an IPO has not occurred and if certain EBITDA requirements are met, Stonepeak has the right to convert such common shares into preference shares such that the aggregate value of all such preference shares equals the Conversion Value. The Conversion Value is equal to ((i)) the sum of all amounts paid by Stonepeak to acquire the common shares, increased by a compounded annual rate of 8.5%, ((ii)) less any distributions in cash or in kind on the common shares held by Stonepeak. Upon IPO, the conversion right of the common shares held by Stonepeak will terminate, such that none of the common shares will have such conversion right.
A conversion into preference shares would result in substantial, additional dividend obligations for Hygo.
But there’s far more to the story. With the CEO now firmly linked to the Car Wash Scandal and Hygo relying on contracts with government-backed entities in Brazil, the company will likely be met with increased scrutiny going forward.
In addition, the review initiated by Hygo regarding “the culture of compliance in connection with Mr. Antonello’s service” will obviously include a thorough examination of the company’s existing contracts in Brazil, including its key Sergipe power plant project.
Given these issues, it is difficult to see how Hygo would be able to resume the IPO process with investors now wary of the potential implications for the company’s existing and future business.
The Hygo issues are hitting Golar LNG at a crucial time as the company has been in the process of refinancing a $150 million term loan maturing in November with its stake in Hygo currently serving as collateral. Refinancing would have been a non-issue if Hygo had successfully conducted its IPO at the targeted valuation but after this week’s events, Golar LNG might very well experience problems “to put in place a revolving credit facility with a number of banks” as stated by management in the most recent conference call.
After adjusting for restricted cash, a $50 million minimum liquidity covenant and required repayment of a $30 million margin loan, Golar LNG’s available cash appears to be at a dangerously low level of below $50 million right now.
Clearly, Golar LNG is not in the position to support its Hygo subsidiary at this time. An IPO would have solved both Golar LNG’s and Hygo’s liquidity constraints but with this much-needed catharsis apparently off the table for the time being, the outlook for Golar LNG’s common shares remains cloudy, to say the very least.
Under a best case scenario, the company will somehow manage to proceed with the IPO before the June 2021 deadline, raising at least $300 million for the redemption of Stonepeak’s preference shares and near-term capex requirements.
Under a worst case scenario, Golar LNG’s banks won’t refinance the upcoming $150 million term loan facility while Hygo would be required to convert and subsequently redeem the Stonepeak preference shares.
Suffice to say, an investment in Golar LNG’s common shares has become incredibly risky after Hygo’s IPO efforts have been suspended for now.
Management likely needs to pull a rabbit in form of a new credit facility out of its hat to avoid the company succumbing to its ongoing liquidity issues.
With an ultra-high risk/reward profile, the shares will likely remain volatile going forward. Much will depend on the company’s banks’ willingness to continue to work with Golar LNG.
Given these issues, only the most speculative investors should consider a position in Golar LNG at this time.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.