Can Sherritt Capitalise on Cuba’s Capitalisation?
Can Sherritt Capitalise on Cuba’s Capitalisation?
Posted on November 8, 2015 by Christopher Ecclestone
Frankly the management of Sherritt, since way back, have not been seen
as amongst the sharpest knives in the drawer. While they have rightly
been obsessed with their persona non grata status in the US due to their
supposedly falling foul of the wretched Helms-Burton Act, they have
largely taken the ball off the means by which they could remake the
company to maximise value for the long-suffering shareholders.
Here I shall examine the rather dire handling of the matter of the
scarcely-known energy assets the company holds in Cuba, which are NOT
subject to Helms-Burton problems but are being largely ignored as the
country barrels towards a Vietnam-style “opening to the West”. The
obvious solution is to demerge these assets and let them evolve as
potentially one of the purest play entry points for emerging market
investors into this nascent frontier market.
One of the interesting positions that Sherritt has built up using its
non-remittable funds in Cuba has been its push into electricity. This
division has an internal logic in that Sherritt also has an interest in
natgas production in Cuba. The company is also pushing into power
generation in Madagascar in association with its Ambartovy project.
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Sherritt holds an indirect one-third interest in Energas, a joint
venture established to generate electricity for sale to the Cuban
national electrical grid. The remaining two-thirds interest in Energas
is held equally by two Cuban agencies, Union Electrica and Cubapetroleo.
Energas runs a power generation system with 506 MW of gross production
capacity with generation derived from gas supplied from Cuba’s north
coast by Cubapetroleos.
Energas produces around 12% of Cuba’s total power output. The location
of the plants and their individual capacities are shown on the map below.
Sherritt financed, constructed and commissioned each of the integrated
gas treatment and power generation facilities located near the Varadero,
Boca de Jaruco, and Puerto Escondido oil fields.
The Varadero facility is located approximately 140 km east of Havana.
The facility consists of two integrated raw gas processing plants, three
gas turbines and associated electric generators, a heat exchange system
for generating high-pressure steam, and a steam turbine and associated
electric generator. In addition, the Varadero site includes an
electrical substation and transformers, to facilitate connection of the
facility to the Cuban national grid, and an integrated maintenance and
administration facility. Aggregate net power capacity of this facility
is approximately 329 MW.
The Boca de Jaruco facility (pictured below) is located 50 kilometres
east of Havana. The site initially consisted of a sour gas processing
plant, one gas turbine and an associated electric generator with a net
power capacity of 33 MW. The site also includes an electrical
substation, a transformer to facilitate connection of the facility to
the Cuban national grid and an administration facility. The facility
commenced operation in August of 1999.
The 85 MW Phase 6 expansion of the Boca de Jaruco facilities completed
in 2006 included the installation of two additional gas turbines and
associated electric generators at the Boca de Jaruco plant site with a
net power capacity of 65 MW and a third gas turbine and associated
electric generator with a net power capacity of 20 MW located at a new
plant site in the Puerto Escondido oil field. This phase of the
expansion also included the installation of sour gas processing
facilities at the Puerto Escondido plant. The Phase 7 expansion of the
Boca de Jaruco facilities completed in 2007 included the installation of
two additional gas turbines and associated electric generators with a
net power capacity of 65 MW.
Then the company embarked on a project to expand capacity to 150MW via a
combined cycle plant which came online in February 2014.
Depending on the availability of gas reserves, Sherritt could add a
second 70MW phase.
Obviously as economic activity rises in Cuba then electricity
consumption will rise. The chart above shows production by Sherritt’s
Energas soaring. Indeed since last year these have risen even further.
In the September quarter sales were 30% higher in dollar value than the
same quarter of the previous year. They were up 23% in the nine months
over the same period in 2014. Realised prices were up 20% also showing
that demand is leading to firmer prices.
Results in electricity
One gets the feeling that Sherritt is “hiding its light under a bushel”
in its energy divisions. Why it should do this is anyone’s guess. It
reports high losses despite the EBITDA soaring. The electricity business
made adjusted EBITDA of $24.5mn in the nine months to September 2015
(compared to $19.4mn in the first three quarters of FY14). Total
revenues were $39mn (compared to $37.31mn). Cash provided by operations
Oil & Gas assets
Sherritt has interests in oil & gas fields in Cuba (as well as Spain and
Pakistan, though those make up less than 4% of sales in the division).
Its Cuban oil joint venture is juicier than its nickel. Average gross
working-interest production in the first nine months of 2015 for the
Cuban JV was 18,666 bopd (down from approximately 20,164 bopd in 2012).
This makes the JV the largest domestic oil producer in Cuba,
representing half of total production. Production had been even higher
until early 2009 when the company was compelled to surrender its
position in one producing block.
The company has production-sharing contracts for four offshore
exploration blocks and vertically integrated operations, with seven
production sharing contracts in the deepwater zone in the Gulf of Mexico
northwest of Havana. These blocks cover approximately two million acres
with proven and probable reserves of 50.5 million barrels. The oil in
Cuba is located about 1,500 metres below sea level and it drills
directional wells up to 5,600 metres long to pump oil to the surface.
With $132.1mn in revenues in the first nine months of FY15 and $219.7mn
in the same period of FY14, the EBITDA so far in 2015 was $72.2mn
(compared to $165.6mn in the same period of FY14) the Cuban oilfield
business remains highly lucrative for Sherritt. It’s worth noting that
the unit operating costs were $9.04 in Cuba compared to $43.8mn on the
Spanish fields. This shows that Sherritt dropped the ball on selling the
Spanish assets when the market was hot. Will it miss the ball on
realizing the Cuban assets while the demand for exposure to that economy
is so heightened.
In coming back to review Sherritt’s energy assets in Cuba, we went back
to the research piece we wrote on this theme in 2009. We then went to
the latest MD&A on Sedar for Sherritt. The shocking thing is that the
asset base of these divisions has been virtually unchanged since that
time. The division neither got larger nor smaller, only the numbers
fluctuated with tariffs, demands and prices for oil & gas. The “orphan”
O&G assets in Spain and Pakistan still made up less than 4% of the
total. Any other company in the space would have ditched such small
participations to focus management effort and reduce costs of travelling
such great distances. Clearly Sherritt doesn’t mind being spread too thin.
The Cuban power plants, being de novo, are relatively secure from
rapacious émigrés (not that not having title would ever stop them
wanting them). A scenario worth pondering is Sherritt either floating
them off should a Havana Stock Exchange come into existence. They would
be prime fodder for such a new market. Another possibility would be
Spanish majors in the construction/utility space snapping them up in the
nearer future to get positioned for an eventual wider opening of the
With the rapid opening of the Cuban market to Western investors there is
obviously a hunger for exposure to this emerging (or frontier) market.
Investors in the EM space usually pay sizable premiums for exposure.
Clearly they are not going to buy Sherritt shares with its overwhelming
preponderance to Nickel and Cobalt to get leverage into an opening Cuba.
What such investors (Templeton being a good example) want is “pure”
exposures. In this case the most value could be realized by “liberating”
the Cuban energy assets into a spun-out vehicle and listing it on a US
exchange. It would less like creeping around the Helms-Burton Act than
bulldozing that antiquated and anomalous legal oddity.
In one stroke Cuba would become instantly available to US equity
investors. Meanwhile the long-suffering Sherritt shareholders would get
a bonus prize that they could realise, or keep depending on their own
investment objectives. Buried deep within the bowels of Sherritt this
division does no-one any good.
What will make the Sherritt management see the light? Hmm.. interesting
question. Anywhere else a shareholder revolt might trigger it. On past
experience though, and in light of the bunker mentality that rules in
the company, its more likely they would just put on their Pickelhaubers
and hunker down for the fight rather than think forward as to what might
be in everyone’s best interest.
Source: Can Sherritt Capitalise on Cuba’s Capitalisation? |