LNG - Tellurian's Derisking - Dominoes Are Falling. April's $1 Billion Sale Leaseback Is A Game-Changer

2023-04-28 01:05:03 ET

Summary

• Tellurian's sale leaseback is the tipping point catalyst.
• Sale leaseback requires other partners by July 14th.
• With debt and equity positioned, FNTP should occur in Q3.

Tellurian’s ( TELL ) stock prospects are different than most companies’ because its return potential is directly linked to its success in financing the construction of the Driftwood LNG liquefaction facility. Typically, companies are valued on their prospective operating metrics, like earnings, which are the consequence of their market dominance, their industry’s growth prospects, the products they sell, and their operating margin. In the case of Tellurian, the price of its shares is overwhelmingly a function of their prospects for successfully funding Driftwood LNG which should generate about $10.7 billion in cash flow in 2029.

TELL stock price is $1.36/share COB April 21, 2023. The company has 564,000,000 shares outstanding and a market cap of $766,000,000. If Tellurian’s 2029 cash flow projection of $10.7 billion proves accurate, then at five times cash flow, the company’s future market capitalization could be $53.5 billion. If the company has one billion shares outstanding in 2029, then a stock price target on the order of $53/share is a reasonable estimate.

This is our seventh report on Tellurian. Due to the extreme volatility and return potential, like Tesla in 2013, I write updates to inform investors of changing success and failure prospects for the company. TELL has 50x potential comparable to NFLX, META, AAPL, AMZN, MSFT, GOOG, NVDA... But that upside is predicated on TELL successfully funding its $13.6 billion Driftwood project.

Our first article highlight October 2021 highlighted the return potential of Tellurian by comparing it to Cheniere and its abnormally high rates of appreciation during the funding and construction phases. Our second article in August 2022 reviewed the funding strategy change. Our third article predicted that funding was imminent. Our article was published a day before its debt offering. Our fourth article, October 2022, analyzed the bond offering cancellation, 50% share decline, and investment prospect. Our fifth article , February 2023, identified the first commercial sign that funding was still probable. Our sixth article highlighted a new key strategic equity prospect in the GAIL Expression Of Interest news. This article identifies a critical and unexpected sale lease back strategy that will provide $1 billion in capital, and the agreement requires the majority of the funding parties to be identified by July 14, 2023. We speculate that this contract could lead to a Full Notice to Proceed with Bechtel in August 1023 and a price objective of $7.5/share. Furthermore, we provide price targets for first LNG production in 2027 and first LNG production with Phase Two complete in 2029 -- $53/share with one billion shares outstanding.

The 2029 $10.7 billion cash flow illustration shown below comes from Tellurian’s February Investor Presentation. Whether that cash flow is achieved is entirely dependent on whether Tellurian can secure the funding to build Plants 1 through 5 of the Driftwood LNG liquefaction plant. When sufficient funding is secured, a “Full Notice To Proceed” FNTP will be issued by Bechtel, the world leader in liquefaction plant construction, to complete Phase One: Plants 1 and 2 of the Driftwood LNG project. Plants 3, 4 and 5 will be funded with cash flows from Phase One.

To understand Tellurian and Charif Souki, we looked at the price history of Cheniere Energy Inc., where Souki was the former co-founder and Co-CEO. In the chart below we see abnormally high rates of appreciation occurred during Cheniere’s financing and construction phases:

We have concluded that by analyzing Tellurian news regarding Driftwood’s project financing, we can potentially capture the extraordinary share price appreciation associated with the derisking periods correlated with Cheniere’s historic moves. Derisking is a step-function similar to an FDA approval for a one product biotechnology company. Traditional equity valuation methodologies such as discounted cash flows and sum of parts methodologies improperly capture the derisking import of securing the financing to announce Full Notice To Proceed “FNTP” with Bechtel. FNTP commits Bechtel to complete the construction of the Driftwood facility which effectively assures Driftwood’s delivery of LNG and future cash flows. We expect FNTP will be achieved this year based on company statements and this video update on April 5 ^th of the Driftwood Project with construction head, EVP and President Driftwood Assets Samik Mukherjee and Executive Chairman Charif Souki. Now, with the LOI sale leaseback prerequisites due by July 14, 2023, we believe a FNTP could be announced as soon as August, and then the shares could trade at $7.5/share or about five times Tellurian’s current stock price.

A Brief History of Tellurian’s Recent Volatility

The 15 month chart below shows Tellurian’s shares rose 174%, in early 2022, when natural gas and LNG prices spiked when Russia invaded Ukraine. After May 2022 natural gas and LNG prices declined to more normal levels with prices as of April 20 ^th _, 2023 being $2.19/mmbtu for Henry Hub and $13.04/mmbtu for Europe’s TTF LNG benchmark. However, the greatest downside driver during the 76% decline from April to September came from Tellurian’s decision to cancel its $1 billion bond and warrant offering on September 19, 2022. This offering cancellation suggested a project delay and prompted the cancellation of the Shell and Vitol SPAs -- though if the Driftwood LNG project look to get funded, both entities could return if new strategic investors do not displace their service offerings.

In the third quarter of 2022, Tellurian shares struggled as financing prospects were unclear and tax loss selling weighed on the stock. In the first quarter of 2023, shares continued to be pressured due to the resignation of two board members on February 2, 2023. Furthermore, the announcement on February 13th that Charif Souki’s shares were being sold under a forced liquidation by Wilmington Trust Company associated with a substantial real estate purchase in Aspen, created horrific optics for the company. The sale of shares of the company’s public face and Executive Chairman presented the mistaken impression that these sales were a deliberate decision to exit his Tellurian investment. However, the sales were executed by Wilmington Trust and related to Souki’s real estate purchase near Aspen, Colorado and driven by the terms of the real estate loan. We suspect the potential conflict of interest of the loan terms which caused the share sales by Wilmington Trust may have been a factor in the “personal decision” by board members Claire Harvey and James Bennett to resign. These events have no material impact, in our opinion, but led to extremely negative sentiment surrounding Tellurian’s prospects, just as green shoots of a successful financing began to materialize.

Green Shoots - Credible Financing News

During the first quarter, the board and CFO resignations, Souki’s share sales and negative momentum culminated in an extreme oversold low share price of $0.98/share on March 23 ^rd . However, despite this horrible sequence of negative news, certain positive developments affirmed viability and the potential for Driftwood funding to be realized this year.

Here are several credible news items that support a turnaround:

• Gunvor extended its SPA on January 27, 2023. We felt if Driftwood funding was not possible, why would Gunvor extend its SPA with Tellurian?
• GAIL announced an EOI on February 17th. Since the September debt offering cancellation, Tellurian emphasized its new financing model which would utilize strategic partners and the company has publicly courted India as a logical offtaker. Consummation of this contract could lead to a significant equity investment, up to 26%, of Tellurian. The EOI “Expression Of Interest” has GAIL effectively creating a syndicate of Indian gas companies that want to secure low cost LNG for the long term.
• On February 22, 2023, Tellurian Inc. reported solid earnings . TELL demonstrated they had the balance sheet and cash flow to continue building the Driftwood foundation and targeting LNG in late 2026.
• On March 31, the company paid off its $169,165,990 in current convertible notes, sending another signal that Tellurian had the balance sheet and income to continue funding Driftwood foundational work that shortens the timeline to LNG production.
• On April 4 ^th , a binding Letter of Intent “LOI” was signed for a sale lease back of the Driftwood property where it will receive $1 billion based upon other funder conditions being met. Since Cheniere Energy Inc., employed a MLP structure -- Cheniere Energy Partners, L.P. ( CPQ ), selling the facility asset was a clever innovation, but not unusual.
• On April 10 ^th , Charif Souki said that all the debt, mezzanine and equity investment must close simultaneously and that “next week” Tellurian would be going to NY to secure its $7 billion bond commitment. $1 billion has been invested by Tellurian, $1 billion will come from the sale lease back, and Tellurian is in the process of securing $7 billion in project finance. A couple of strategic equity commitments and the funding levels for FNTP could be met. Furthermore, this debt to equity ratio was just implemented in the Sempra ConocoPhillips Port Arthur LNG facility on March 20, 2023 for a similar sized project.
• The company, through its many videos and presentations, identifies a pathway to funding Driftwood. With the sale leaseback, other equity counterparties serving as contingent guarantors “of BBB credit quality” are required by July 14 ^th to meet their pro rata obligation of the Master Lease agreement otherwise Tellurian will not secure its $1 billion from its LOI. The final closing is 91 days later, but the syndicate for the $13.6 billion should be largely complete as of July 14, in our opinion. $6 billion in equity and mezzanine finance and $7 billion in project bond finance is the current capital structure, juxtaposed to the “Topco” level $1 billion bond offering 11.25% with warrants in September, this new structure utilizes project bonds that are an obligation of the Driftwood project. Banks view projects with known feedstock providers, off takers, a proven process technology and contracts, are considered lower cost “project finance” debt. Tellurian’s Investor Presentation suggests a 7% interest rate. We believe that a FNTP could be secured in August before the final closing of the sale lease back contract in the third quarter of 2023. This capital structure is lower risk than what Tellurian had been targeting in August and September 2022, due to a higher equity component and lower debt ratio.
• April 20, 2023, FERC announced the 200/300 pipeline approval Driftwood Pipeline, LLC. This pipeline permission connects existing pipelines with access to the Haynesville shale to the Driftwood LNG facility. This should eliminate any concern from Haynesville E&Ps, who could be strategic equity funding partners, that they might be hindered in delivering their natural gas to the Driftwood LNG facility.

We see green shoots and funding coalescing for Driftwood, catalyzed by the $1 billion sale leaseback financing structure announced on April 4 ^th , 2023. This funding should close 91 days after the guarantor affirmation date of July 14 ^th or July 31 ^st . Consequently, we assume that by July 14, the $7 billion in project debt finance and the $1 billion sale lease should be affirmed, which, in combination with some strategic equity investors, could raise enough capital to secure the FNTP from Bechtel in the third quarter. With Driftwood’s completion prospects being assured by the FNTP, we could see the stock price rising to $7.5 by August 2023 if not later in the third quarter.

Risk and Return Evaluation

Risks and Downside Risk

There are many market risks especially in terms of natural gas and LNG market price and market demand. Furthermore, there is a strong anti-fossil fuel lobby which works to stymie the global adoption of LNG. These anti-natural gas forces are countered by empirical evidence that highlights natural gas and LNG benefits including increasing energy security, reducing carbon emissions by replacing coal fire electric plants with natural gas, and ending poverty and hunger through broader adoption of US natural gas and LNG in harmony with the increased deployment of renewable energy, hydrogen, and nuclear.

The downside risk to Tellurian is its liquidation value. Assuming the value of Driftwood LNG at its current state is $0, then the company’s current value is only the value of its natural gas pipelines which should generate about $150 million in EDITDA at today’s low gas prices, plus its properties and pipelines. This should be worth about $500,000,000.

Even if Tellurian cannot finance Driftwood, there may be larger entities that would buy the Driftwood LNG Property and licenses for $500,000,000. Consequently, we estimate that the downside risk and downside price valuation for Tellurian based on a market capitalization of $500,000,000 without Driftwood and $1,000,000,000 with an unfunded Driftwood. We estimate the downside risk is $0.88/share to $1.76/share, if we divide these two market capitalizations by the current share count of 564,000,000.

Valuation

These calculations should be considered as an order of magnitude study. The key is how significant the derisking element is to the price appreciation. We think FNTP, Phase 1 completion and Phase 2 as three derisking milestones.

We estimate that in 2029, Phase 2 will be complete and the market valuation for Tellurian will be five times the illustrated $10.6 billion in EBITDA or $53 billion. Assuming dilution we estimate one billion shares outstanding in 2029, and a share price for TELL of $53.

This would imply an annualized return over 6 years of $53/1.36^1/6-1=83% annualized.

If expected funding steps are completed on schedule, we estimate Tellurian to achieve FNTP in August and then the stock would trade at $7.5/share.

We also estimate TELL’s further rate of appreciation if TELL shares rise to $7.5/share in August when Driftwood should get its FNTP from Bechtel. Based on those assumption, we estimate the return from our August $7.5 price target to be $53/7.5^1/(5.6)-1 = 41% annualized from FNTP to 2029.

We think the critical derisking point will be when Driftwood starts producing LNG and generating cash flow with the completion of Phase One (trains/Plants 1 and 2) in late 2026 or early 2027. Consequently, at that point the shares could be a good bit higher. We estimate a $34.8/share price target for the completion of Phase 1 based on a 15% annualized discount to the 2029 $53/share price target we envision.

Conclusion

Tellurian appears to be moving toward successfully financing its Driftwood LNG liquefaction plant in Lake Charles, Louisiana. LNG capacity is experiencing a second wave of project development to address the supply gap in liquefaction capacity as a result of Russia’s invasion of the Ukraine. Furthermore, energy policy is moving from eliminating all fossil fuels in favor of renewables to one that includes transition fuels like natural gas and nuclear energy. Both natural gas and LNG can help end poverty and hunger globally more rapidly than a renewables only strategy.

Tellurian’s management team has a world class record. Its Principals Charif Souki, Octavio Simoes and Martin Houston have collectively built about 80% of US liquefaction facilities and 60% of the global LNG facilities. The Driftwood facility is fully permitted, and FERC approved. Tellurian’s prospects now lie in its ability to finance Driftwood.

Following the nearly 5% increase in the Federal Funds Rate, the risks of an economic slowdown or recession are palpable. Tellurian Inc. may be an excellent recession investment because its prospects are not tied to the economy, but rather are tied to the microeconomic prospects of funding Driftwood LNG.

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