While Statoil is listed on both the Oslo Stock Exchange and the New York Stock Exchange, the Norwegian state still holds majority ownership, with 64%. The main office is located in Norway's oil capital Stavanger. The name Statoil is a truncated form of the State's oil. (wikipedia)
Statoil ASA (STO)
Q2 2007 Earnings Call
July 30, 2007, 7:30 AM
Executives
Lars Troen Sorensen - Sr. VP, IR
Eldar Sætre - CFO and EVP
Analysts
John Olaisen - Carnegie
Presentation
Lars Troen Sørensen - Senior Vice President, Investor Relations
Welcome to this Statoil Second Quarter 2007 Earnings Presentation. My name is Lars Sørensen and I am the Head of Investor Relations. This morning at 0800 Central European Time the accounts, the press release, the stock market announcement, and presentation material were published through the Oslo Stock Exchange and on our website statoil.com. All material can be downloaded from there.
Let me take just 30 seconds of your time to tell about safety. There are emergency exits there and at the back of the room, and if the alarm goes, it is real there are no tests planned for today.
As usual this presentation is webcasted and I would like to say welcome to all you listening in from the web. I would like, also, to draw your attention to the disclaimer on the second page of the presentation set that you can download or have been handed in printed version here in Oslo. And then I won't use much more of your time with introductions, I will just introduce our Executive Vice President and Chief Financial Officer, Mr. Eldar Sætre, who will take us through the second quarter presentation. Please Eldar?
Eldar Sætre - Chief Financial Officer and Executive Vice President
Well. Thank you, Lars. Ladies and gentlemen it has been only two months since I presented the first quarter results and I guess in the short time that we have had since the last update, we have seen a continued demonstration of the dynamics and volatility of our industry and global economics.
There is continued high growth in the world economy, indicating increasing demand for energy and oil also in the years to come and oil prices above US $60 per barrel have so far not have any implied, any material demand disruption. The IEA forecast in its latest report that conventional oil production from non-OPEC countries will reach a plateau around 2011/2012, and accordingly non-conventional oil production will increase but in a moderate pace.
The world will consequently, to a much greater extent, look to the OPEC countries and the national oil companies to meet the increasing demand and the resource owners are also increasingly aware of their position. Simultaneously, the US National Petroleum Council have produced a comprehensive report to the Bush Administration, recommending tougher measures to increase energy efficiency and reduce energy consumption, including capture and storage of CO2.
We believe that the conclusions from both of these reports coincide with the assumptions forming the basis for our strategic moves over the last couple of years. The merger, in itself, improves our capacity and capability to meet the new industry challenges. We have strengthened our heavy oil position through the acquisition in Canada. We have created a solid and robust position in Gulf of Mexico. Our cooperation with natural oil companies will continue and we are increasing our focus on technology for handling of CO2.
In this context, it is rewarding to see that Statoil is making steady progress every quarter and that takes me to the first slide of this presentation. Overall, we are very satisfied with the results that we can present for the second quarter. The merger is on track to close on 1st of October. We are delivering production growth both on oil and gas compared to the same quarter last year. We have high exploration activity and the exploration results are also good.
Ten wells were completed in the second quarter and drilling was ongoing on nine additional wells at the end of the quarter. Year-to-date, we have completed 28 wells with 16 discoveries, only four dry wells and 8 wells waiting final completion. And we have delivered some solid financial results in the second quarter.
Statoil had a net operating income in the quarter of $26 billion against $30 billion in the same quarter last year. The 13% lower EBIT is mainly due to a 3% lower oil price in Norwegian krone, 13% lower average gas price and 2% reduced liftings.
In the second quarter, we had a total under-lift of 33,000 barrels of oil equivalents per day split between 18,000 on the Norwegian Continental Shelf and 15,000 International. Last year, we had an over-lift of 26,000 barrels per day adding up to different into the net lifting position of approximately 60,000 barrels per day. The net income was 11% higher, primarily due to lower income taxes of 61.3% compared to 69.4% in the same quarter last year. The lower tax rate is mainly due to higher income contribution from activities outside of the Norwegian Continental Shelf, and an average tax rate on financial items which was lower than last year. The EPS increased by 13%, from the growth in net earnings and the reduced number of outstanding shares due to the share buyback program.
Total oil and gas production in the second quarter was 1,112,000 barrels of oil equivalence per day which is up 3% from the same quarter last year, oil production alone increased by 4%.
Given the reservoir and production issues that we have had on Kristin and Kvitebjørn, the overall production performed satisfactorily. The ongoing efforts to complete the wells on Kristin and Kvitebjørn are following the renewed plans that we announced in May this year and we expect to get the full contribution from both of these fields in 2008.
In the second quarter, we also had a number of scheduled turnarounds, all of these activities have been performed according to plan and impacted production with around 16,000 barrels a day which is in line with our guidance.
It is also worth noticing that our international production has an increasing interest for Statoil [ph] overall oil and gas production. The international production this quarter increased by more than 10% to a total of 209,000 barrel per day, accounting for almost 20% of our corporate oil and gas production. The increase comes mainly from new fields in production and ramp-up -- ramping up for production from Angola, Azerbaijan and Algeria. The Gas production from In Salah, in Algeria fell significantly from the first quarter this year as a result of the PSA arrangements. Oil production increased by 23% to 181,000 barrels per day, which is the highest oil production outside of Norway in Statoil's history.
Return on average capital employed was 23.6% compared with a return on average capital employed of 26.4 in 2006. We maintain our position amongst the best performers on these indicators within our peer group and this ranking also supports our position as one of the companies with the best profitability and capital discipline in the sector.
Net interest bearing debt was 43 billion at the end of the second quarter compared to $30 billion at the end of the corresponding quarter last year. And that equals a net debt to capital employed of approximately 26%. The increase in net debt is mainly due to lower liquid assets combined with higher short-term funding.
And the three main factors for the use of cash in the second quarter, except obviously for the running costs, were scheduled tax payment of almost 30 billion, payment of dividends of almost 20 billion and the acquisition of North American Oil Sands Corporation of 12 billion Norwegian Krone.
Our estimate for the net debt to capital employed by yearend is still in the range of 15% to 20% excluding any effects of the merger.
Then I would say a few words about the overall exploration activity before we dive into each of the business segments. As mentioned earlier, our exploration activity is still at a very high level, and these charts illustrate the intensity and diversity of our overall exploration program.
In the second quarter we have completed five wells with four discoveries on the MCS. Since the end of the quarter, we have completed additional three wells which all were discoveries. In Azerbaijan, the long exploration well on Shah Deniz is under evaluation while the sidetrack is still ongoing. And in Angola, the Janus well is being evaluated and Portia 1 is ongoing; both of these wells were in block 31. In Nigeria both wells on Pertamina [ph] are discoveries and we are now moving to complete the drilling program for the field, and evaluate further possibilities.
In the Northern part of the UK North Sea, we are awaiting the two Rosebank... evaluating the two Rosebank wells, tests have been encouraging so far and the third well in this prospect was spudded actually last week. At the Plataforma Deltana in Venezuela, Statoil has completed the drilling of the second well of the three well program: the Ballena well, of course, is part of the ongoing exploration campaign in Block 4 on Plataforma Deltana.
And finally in the Gulf of Mexico, the two wells completed this quarter are still being evaluated and we now have a total of 11 confirmed discoveries in our portfolio in Gulf of Mexico and 4 wells are being evaluated as we speak, in addition to the 11. Then to each of the business areas, and as usual I will start with E&P Norway. The net operating income from E&P Norway this quarter fell by 14% compared with last year. This was mainly due to 11% lower oil lifting, partly offset by a 7% higher gas lifting. We had a total over lift in the second quarter last year of 29,000 barrels per day of oil equivalents compared with an under-lift of 18,000 barrels per day this quarter. The oil price in US dollar per barrel was marginally up last year but the US dollar compared to last year... but the US dollar fell more than 3% against the Norwegian krone, which resulted in a 3% lower oil price in Norwegian krone.
Operational, general and administrative expenses increased mainly because of higher activity. In addition there is also rising cost from general industry cost pressure. And DD&A was up 11% mainly because of the upward revision of asset retirement costs from the fourth quarter last year. These cost increases were more than offset by the lower expression... expenses of approximately $0.4 billion Norwegian krone mainly due to higher success rate and capitalizations.
Then a few comments also to some other NCS activities: within exploration, we have had some very good exploration results lately. I mentioned the Ermintrude discovery in the Sleipner area in the first quarter presentation. Since then we have completed two sidetracks confirming that this discovery is between 50 million and 75 million barrels and with a 100% ownership in this license, the volume is obviously of significance for Statoil. We have also made a gas discovery in the so called Yttergryta, strange name, prospect in the Åsgard area and are now making preparations for this well to be transferred from an exploration well to a producing well at the end of 2008.
Furthermore the Onyx South West is finalized with a positive outcome this quarter. This gas discovery was originally estimated between 10 million to 50 billion cubic meters which is around 300 million barrels of oil equivalent. The appraisal well has confirmed the Northern expansion making us look more at the upper part of the estimated reserve range. The appraisal well on the Snøhvit oil zone was recently also completed. It is too early to draw any conclusion about the significance of this well.
In June, the Norwegian Parliament approved the development of the Gjøa field, which is currently one of the largest developments on the NCS. The US plant will be in production in late 2010.
Also in June the development plan for Skarv and Idun combined was submitted to the authorities. The BP operated project in the Norwegian Sea's plant to be in production in 2011; and Statoil has an equity interest of 34%.
Two smaller projects have also started producing in this quarter, the Enoch and Huldra Compression, and let me just elaborate a little bit on the Huldra project. This project is not a very big project, but I think it illustrates, well, how Statoil constantly seeks to optimize value creation from all our sales. Huldra came into production in 2001 and according to their original plans to field should have been shutdown in 2006. In 2005, the owners decided to install a compressor at the platform to increase recovery and recoverable reserves with approximately 28 million barrels oil equivalents and increase the lifetime of the projects by at least five years. So, the Huldra Compression project is one type of IOL [ph] project that we will see more of in the years to come and it's also a very good value creation.
Now to our international business segment; the net operating income within international E&P was down 7% compared to the second quarter last year. This is mainly due to increased exploration expenses of approximately 500 million Norwegian krone from the acquisition of seismic data, particularly in the Gulf of Mexico and Brazil and also in Northern Africa.
Oil prices in the second quarter fell by 3% in Norwegian krone while total lifting was up 3% compared to last year. The result this quarter was influenced by an under-lift of 16,000 barrels per day compared to a production growth of 10%, as I mentioned, corresponding to 20,000 barrels per day.
Oil production in international E&P is increasing and has been record high at 181,000 barrels per day. Gas production, mainly from the In Salah field in Algeria, was 27,000 barrels per day in the quarter; 30%... 35% down compared to the same quarter last year, which is as suspected and as we have previously guided you about. This was partly offset by more sales from the Shah Deniz field in Azerbaijan.
Our international E&P business is becoming gradually more important for Statoil and also in this quarter we had some important achievements to support this development. As mentioned, we have closed and finalized the acquisition on North American Oil Sands Corporation. The new management team is in place and being integrated with the existing organization.
The Shah Deniz field started up production in late February this year, and in early July the gas from the field also started flowing into the Turkish market. We have signed an MoU with PdVSA and the authorities in Venezuela on how to transfer of ownership in the Sincor project is to be performed. This MoU clarifies Statoil's role in the new mix company structure. The agreement is subject to approval by the National Assembly which is expected to happen before the end of August.
A couple of weeks ago there was also renewed attention to the Shtokman field in the Russian part of the Barents Sea, as Statoil made an agreement with Gazprom becoming a partner in this development. I cannot say anything specific about the process and the relationships that we have to Gazprom, however, we are in continued dialogue with Gazprom also on the Shtokman field and our goal is still to reach a solution that is acceptable to Gazprom and Statoil, and it goes without saying that we will not participate or cannot participate in any project unless we are fully convinced that this will create long-term values for our shareholders.
Natural gas: Net operating income for this segment was 700 million against 2.9 billion for the same quarter last year. This reduction was mainly due to a fall in the average external market price for gas of 13% while the transfer price was approximately unchanged. Natural gas sales increased by 12% while the equity volumes part increased by 7% from last year. Adjustments on derivatives affected the EBIT in natural gas negatively with approximately $700 million Norwegian krone compared to last year. The affect on the quarter in a self was insignificant.
At this point, I would also like to share some perspectives on the European gas market going forward. Short-term, the gas market, no doubt, is affected by new capacity and new fields coming into production. This is no surprise to us. Especially in the UK market, the prices have been under some pressure due to new input supply combined with a warm winter that has dampened demand. I would like to stress that even at the low prices that we have seen lately, Statoil create considerable value from our exports due to the proximity to the market and the cost structure implied by this proximity.
In the longer term, we maintain the positive view on gas as an increasingly important energy source to Europe. The indigenous production of gas in the EU declines rapidly while demand for gas is expected to increase. This is not least due to the natural gas lower carbon footprint compared to oil and especially coal. Statoil's proximity to gas-hungry European market and the efficient and flexible infrastructure that we have operated for many years encourages our optimism on gas in the longer term. The growing use of LNG will increasingly act as a link between markets and gas will therefore become more global commodity with reduced regional pricing.
So to conclude on gas we expect a somewhat soft market in the short-term where demand, as usual, is also depending on temperatures. But medium-term and longer-term we see no reasons to change our fundamental view on the demand for gas in EU, and due to the proximity as I said to the market we are in a position to be actually the most effective competitor both in the Continental European market and in the UK.
And now to our last business segment the manufacturing and marketing. Net operating income for this segment was 2.6 billion Norwegian krone against 2.5 billion in the same quarter last year. This 5% improvement is mainly due to realization of deferred gains on inventories and improved resource from the energy and retail business. The increased earnings were partly offset by plant turnaround activities.
Oil trading and supply contributes 1.3 billion Norwegian krone to the manufacturing and marketing EBIT $0.5 billion or $500 million of this is due to deferred gains on inventories according to the IAS 39. In addition, we have net positive effects from changes in inventory values.
Within manufacturing the FCC margin increased this quarter, but our refining resource was also affected by an extensive plant turnaround at Claymore [ph] as I just mentioned. The methanol price averaged 250 euro per ton in the second quarter that is 12% lower than last year. The methanol plant at Tjeldbergodden was also closed due to a plant turnaround for approximately seven weeks in the second quarter. Within energy and retail, margins have improved somewhat and the volumes have also increased slightly contributing to a total of EBIT of $300 million in the quarter and increase of 45% compared to last year.
Then a few comments to the ongoing merger process; the main message from this process, as I said in my introduction, is that it is on track to be closed on the 1st of October. In the second quarter we got the shareholders' approval of the merger on... at the EGMs in both that of the Heidrun [ph] with overwhelming majority in both companies. We got in place management levels 3 and 4, as we call it, and we have now started at the main manning process including almost 10,000 positions to be filled. All of these positions will be concluded and decided upon in late August early September. So this means that when the merger is being closed on 1st of October we will have the full organization in place and in operations from day one.
So the only remaining approval is from the creditors and we do not expect any major issues to rise from this process. So, let's also have a look at some events that you should be aware of in the third quarter. The high exploration activity will continue also in this quarter and we still expect approximately 40 or at least 40 wells to be completed this year. We have a high level of plant turnaround activities in the third quarter expected to influence production by approximately 45,000 barrels per day in the quarter.
The Shah Deniz field in Azerbaijan will ramp up production and we also repeat our guidance on the production from the In Salah field in Algeria. The production from In Salah in 2007 is estimated to an average of 35,000 barrels per day for the full year, and I remind you that the entitlement production to start during the first quarter for this year was 56,000 barrels on this field and that we... and that there is a significant fall in the entitlement production from this field due to the PSA terms after the first quarter. And of course production of gas will depend on the customer off-take within the commitments of the gas year. Finally, the agreement made in Venezuela is subject to approval in the National Assembly, as I said, and we expect this to happen before the end of August.
So, let me now summarize the presentation. And starting with guiding for 2007, our production forecast for 2007 is unchanged and estimate to an average between 1.15 million and 1.2 million barrels per day of oil equivalents. The production cost per barrel is estimated to exceed 30 Norwegian krone per barrel for the full year. Exploration expenditure is expected to be approximately $9 billion assuming the completion of 40 wells. And the organic CapEx is estimated to be around 45 bringing total CapEx for the period 5 to 7 up to a level of 120 billion Norwegian krone. And all of these forecasts are unchanged compared to what I said in the first quarter.
To summarize, our key deliveries of the third quarter: the merger process is on track to close on 1st October; we have grown up production year-over-year by 3%; the exploration resource have been good; the activity is high and we will continue at this high level; and we are delivering solid financial results within earnings per share of 5 Norwegian krone in the quarter.
So, thank you very much for the attention, and I guess I leave it back to you, Lars.
Question And Answer
Lars Troen Sørensen - Senior Vice President, Investor Relations
Thank you very much Eldar. I'll now invite the audience both here in Oslo and on the Internet to ask questions. [Operator Instructions]. With us here in Oslo, we also have the Head of Corporate Planning, Togam Ryson; [ph] and the Head of Corporate Accounting, Carl Thomson [ph] who will assist on answering questions.
Are there any questions from Oslo? John Olaisen has a question. While he is getting the microphone I might just as well say that we also have a question from Jason Kenny on the Internet or rather two questions which both allude to things that happens after the merger, he was also guiding on the ROACE after the merger and he was also guiding on the CapEx after the merger and I might just well say now that all such guiding is something that we can't give you now. We have to wait until we close the merger. And all such guiding will be given on our CapEx and Markets Day which is now set for the 9th of January, 2008. So please, John go ahead.
John Olaisen - Carnegie
Yes please. I wonder if you could elaborate a little bit on the realized gas price in Q2. It seem to be somewhat lower than what's most -- oil reported. So Vince [ph] could you tell us how much was spot exposure in the quarter versus long-term contracts and also if you could give a little bit indication of the second half of the year; what kind of gas price would you expect for the second half of the year to realize. Thank you?
Unidentified Company Representative
Okay, the gas price, as I said, was 153 order, per standard cubic meter which is down 13% compared to the same quarter last year and also down compared with the first quarter of this year. The average gas price is an average between sort of our long-term contracts which is lot of contracts linked to different products typically gas oil and fuel oil products and typically with the six months plus-minus delay and also a combination of the volumes that we sell into the UK market at the NBP pricing. So, this is a mathematical calculation based on these long-term contracts and there is no special items, anything except for the delays that we have in the link to gas oil, oil fuel typically of approximately six months and the average quotations on the NBP. Compared to first quarter, for instance, we are down 12% and our long-term contracts were down 12% and NBP were down 12% on average. So we don't see any special items, issues explaining our gas price, it's an average compared to what has actually been achieved and what just logically can be calculated from the fundamentals.
John Olaisen - Carnegie
[Question Inaudible].
Unidentified Company Representative
Well Statoil is a quite big player in the gas market and I don't think we will give volumes on the overall mix but it's pretty much in the same range as you saw in the first quarter, maybe slightly down compared to the first quarter but not significantly down.
Unidentified Company Representative
All right. I will take couple more questions from the Internet. There is a series of questions from Theepan Jothilingam from Morgan Stanley. I will take a question out of these. On Snøhvit, he has got two questions to ask on Snøhvit. First the... could you give us an update on the startup and whether you have... you are still on track and what volumes do you expect this year?
Unidentified Company Representative
Well, on the startup we are on track. There is no news, there has been good progress and we always say when we talk about Snøhvit that it's a lot of challenges ahead of us still, and in particular as we move from project phase into a production testing and making sure that everything works, there could always turn-up surprises and things that we have to make functioning but overall we are according to plan, we expect regular deliveries from 1st of December this year and we expect... that we can get gas to the tanks late August, early September and then have our first export opportunities or shipments during September. That's the overall time schedule but it is tight and there is no always risk in this phase that things might happen that might interrupt our plans but so far so good. In terms of volumes it's not significant volumes as we're talking about regular production only from the last month and maybe some volumes ahead of that but it's not significant volumes in any case that we're talking about for this year.
Unidentified Company Representative
And Theepan has got a follow-up question what about the Oil Sands, maybe, can you give us an update on that?
Unidentified Company Representative
Well the Oil Sands in any case is a marginal project and Eldar suggest... said in the presentation we have completed the well and we will now have to go back and see what are the implications from that whether that justifies the development but at this time it's probably important to give you an indication and a direction.
Unidentified Company Representative
Any questions from the... any other from the audience in Oslo?
Unidentified Company Representative
I have a question in relation to the slide standing there, production estimates for this year, if the oil price should be $15 to $20 higher how much should that impact on the production sharing agreements? I have another question, also if I may, in relation to this Rosebank discovery. It's now being drilled to appraisal when are you planning to start or Chevron planning to start. Third one, it's published results from number two but not number one, is it possible to give a comment on that?
Eldar Sætre - Chief Financial Officer and Executive Vice President
I could do the Rosebank first that's... as I said both of the two wells is included in my statement that, the results, test results so far is positive. So beyond that there is... it's a side track and it confirms, and is included in the positive statements. So now we are waiting, sort of, just started there, the third well in this three-well program, and then we will have to wait and see what kind of possible development solutions that Chevron might come up with. So on the PSA, Togam [ph]?
Unidentified Company Representative
Yes. On the PSA, effects, for the last year's we have enjoyed very high prices. So, we have actually moved into the new trenches in the PSA contracts, moving away from cost recovery to profit trenches. So, currently the production is less vulnerable to changing in... changes or increases in the oil prices. And as we said, we have some new fields, which are still in profit now under cost recovery phase; Dalia, for instance, in Angola. I won't give any specific numbers, but normally it takes a time until they enter the next trenches. So, I would say that the number is fairly robust to changes in the oil price.
Lars Troen Sørensen - Senior Vice President, Investor Relations
All right. We have two questions Alastair Syme from Merrill Lynch. To confirm the... I would just see... to confirm the approximate restart dates for Kristin and Kvitebjørn. Can you do that? And secondly what level of Sincor entitlement production is factored into the 2007 production guidance. Let's take the Kristin and Kvitebjørn startup dates first.
Unidentified Company Representative
Well. When it comes to... there is no news... significant news on any of these fields. Actually as I said it's following the plans, basically that we established back in May. Kristin is... we expect that to be... there is one remaining well that needs to be drilled now, before we can turn the production up to plateau level and there is always risk. But assuming everything works fine, we expect production from Kristin to reach plateau, let's say early, early in the fourth quarter.
When it comes to Kvitebjørn, we'd like to be a little bit more un-precise on that, so we still say in the... during the fourth quarter and also on Kvitebjørn, we only now have one remaining well. The first well is completed. So, we are talking about one more well until we can go back into full production on Kvitebjørn. On the Sincor, I got the exact number but the basic assumption is that the transfer into the mixed company structure and taking that down to approximately 10%. The implications of that transfer is included basically on the production guidance that you can see on the screen now.
Lars Troen Sørensen - Senior Vice President, Investor Relations
Okay. We had about the same question from Colin Smith [Dresdner Kleinwort] about Sincor. So, we won't repeat that. But Iain Reid from UBS has got the question here. Can you give your guidance for the full year tax rate under your oil price assumption?
Unidentified Company Representative
All right. I expected that question in that form. As you have probably noted the tax rates for the quarter is fairly low on the corporate level. It's 61.3%. And Eldar went through kind of the things that drives, both the net financial results and income outside the NCS. On the level going forward, we normally don't give any guiding to it. Over time, we have said earlier, that you should expect that average tax rate for the corporate will be somewhat reduced due to the higher share of international production and income. And you should also be aware of that this number will probably fluctuate quite much from quarter-to-quarter, as such, and I wouldn't say that the number we see from this quarter is representative for the full year, the things that really affects this quarter is that we have a positive financial results in insulation, and we also have the effect of the gas prices, which is lagging the oil prices. So, in a stable world, if we would have anticipate a somewhat higher gas prices we shouldn't have increased the tax rate somewhat. So, for the full year, personally, I would not be very surprised if it is somewhat above of the 61%.
Lars Troen Sørensen - Senior Vice President, Investor Relations
All right. We'll go back to Theepan from Morgan Stanley. He has got more questions here, beside the stop when that's been reported and you are in negotiations with Gazprom Neft to develop the Lopukhovsky block at Sakhalin Island, do you expect a potential further deal in Russia?
Unidentified Company Representative
We are in discussion with the Gazprom based on the MoU... on a different set of various opportunities. So, I will not elaborate any of those specifically, but I cannot exclude that we will have at a point reach conclusions on agreements to Gazprom on working together on other opportunities beyond the obvious one which we are discussing that's the nation bonds, okay, they destruct none of the opportunity. But, I will not comment any specifically on the prospect that was mentioned.
Lars Troen Sørensen - Senior Vice President, Investor Relations
Okay. We have a question here from Dan Barcelo at Bank of America. The Deepwater Gulf of Mexico, is the strategy acquisition there or shifting towards drilling such as the Eni with Exxon, any updates on exploration progress in the US?
Eldar Sætre - Chief Financial Officer and Executive Vice President
I just touched upon the exploration on the Gulf of Mexico in my presentation. We have drilled... have completed four wells this year which are all under evaluation. We are, as we speak, drilling four or five additional wells and we plan approximately four wells in addition to those. So, 12, 12, 13 wells is overall exploration program that we are looking at this year in the Gulf of Mexico. So, I think that gives us an indication of that we are gradually getting more into the mode of exploration on the... in the Gulf of Mexico. Having said that, I will never rule out the option of further acquisitions also as an opportunity, but the main focus is to pursue and go further with comprehensive exploration program.
Lars Troen Sørensen - Senior Vice President, Investor Relations
Okay there a question from Mark Hume at Credit Suisse. And you have recently sold your stake in Murchison and Trym, are you expecting to become aggressive in portfolio rationalization on the NCS?
Unidentified Company Representative
I don't see any change in the strategy. We have always from time-to-time done that kind of sales on the NCS and this is reflecting continues portfolio optimization that we also do in Norwegian continental shelf. So, in this case we believe that other stakeholders could put more attention into these small developments and maybe create more values than we were able to do. So, when it comes to the new, the merger and the new companies I think we will discuss that kind of issues in that context and I have nothing further to add at this point.
Lars Troen Sørensen - Senior Vice President, Investor Relations
Okay. There is another question from Dan Barcelo, Bank of America. Do low US natural gas prices alter your plans and maybe LNG volumes and what lend at price is required to cover the cost of capital?
Unidentified Company Representative
If we were to conclude at that, I don't see really what we could do short-term on that but we have... don't have any fundamentally changed view on gas prices. I talked about the European gas market in my presentation and that... the same goes for the US gas market. So, we don't see it longer termand when it comes to Snøhvit, it's a longer term perspective that we need to take, whether there is any change for us in the perspectives on the US gas market. When it comes to the breakeven price on Snøhvit, well we have discussed the price in the range of US $4 per barrel to cover our discount rates; cost of capital is lower than that. So, you are talking about the below US $4 per MBTU gas price at least as a breakeven against our cost of capital.
Lars Troen Sørensen - Senior Vice President, Investor Relations
All right. We will take another question from Mark Hume at Credit Suisse. Based on your $60 scenario for production guidance for this year, can you give us an idea of approximately your breakeven on oil price for 2007? Further, are you continuing with your shareholder return policy of about 50% payout going forward?
Unidentified Company Representative
The shareholder distribution, what I can do on that is really just to refer to our dividend policy, and there is no other statement than what you can read out of our dividend policy. So, on the 60... on the breakeven, Togam [ph], I don't know if you can comment on that.
Unidentified Company Representative
Yes. The breakeven price for the portfolio, I mean, in general terms, we are investing for growth and we are one of the few companies growing our production currently with a intensive investment program and that would, of course, be reflected in the breakeven price currently you see in the Company. And you know we match that with a generous distribution of funds to our shareholders. And so the breakeven price, we don't have an update on that, compare to what we've said earlier, but it is fairly the same as we have in front of guided on percent in the earlier respect to that.
Lars Troen Sørensen - Senior Vice President, Investor Relations
Okay. There are two questions on tax rates from the Internet, and then we will take your questions from Oslo here. There is a question from Paul Benning [ph] at HSBC, and there is question from Miss. Michele Della Vigna from Goldman Sachs. And they are both alluding to, could you tell us what the tax rate was on Fx gains and financials in the second quarter?
Unidentified Company Representative
Yeah I think Togan [ph], we will do that as well.
Unidentified Company Representative
The tax on the net financials, in the second quarter the tax rate on the net financials was around 37%. And 37% is broadly in line with what we would expect when we have positive financial results, maybe a little bit on the low side. That... but tend to a very quite a lot from quarter-to-quarter, so seeing that as a stable number is probably something you should not anticipate if you look at, for instance, the second quarter last year, we had approximately the same net financial results but we had actually implied tax rate to that result of 95% and that was due to that we had the gain in another company and we had a loss abroad related to that and you know that will vary quarter-from-quarter depending on how the different currencies are fluctuating and how difference are flowing. So, but in general terms I would say that the tax rate on net financial of 37% is maybe a little bit on the low side from what you normally would anticipate.
Lars Troen Sørensen - Senior Vice President, Investor Relations
We have the next question from the audience here in Oslo.
Unidentified Analyst
Yes. There were report about three weeks back from the International Energy Agency pointing to much sharper fall in Norwegian production than you have been stating earlier. Is there a sort of... should we be any alarmed about this report or do you still sort of see things as you have done?
Unidentified Company Representative
I haven't got any details about that report fresh in my mind but the direction I have noticed, basically I think what you should assume is that we have access to the same information as they have, and they are basing sort of their forecast on production, on information from the operators and obviously from Statoil, so there is nothing in their statements which has any applications compared to the guidance that we have given you. So that's the general statement to that.
Lars Troen Sørensen - Senior Vice President, Investor Relations
There's a question from Christine Tiscareno of Standard & Poor's. Chevron has reported that Tahiti, in the Gulf of Mexico, has been suspended indefinitely. Do you have any idea what indefinitely means?
Unidentified Company Representative
No, no. But I know a little bit about Tahiti. It's... so Tahiti is delayed due to a material weakness in the, so called, Shackles that sort of connects this power by to the subsurface. And the pillars in the subsurface, they need to be replaced before they can go on with the project. And the original plans, Tahiti was set to be in production in mid-2008, and I think the best guidance that Chevron has indicated now is that this will happen sometime during 2009. And hopefully we will see at the early part of 2009 compared to the alternative, so that's the information we had and that we can give at this time.
Lars Troen Sørensen - Senior Vice President, Investor Relations
Okay, we have... I am sorry, there's a question from the audience in Oslo.
Unidentified Analyst
Could you make a comment on the project in Nigeria which is expected to come on stream next year for the sort of unrest in Nigeria, whether or not it has any effect on the startup there?
Unidentified Company Representative
To my knowledge there is no changes in the time schedule for the Agbami field, so that should be in production in 2008 as planned. It's a project where there is cost pressure, to put it that way, but beyond that there is no issues and the unrest that we have seen in Nigeria hasn't at least had any impact on this project as far as we know.
Lars Troen Sørensen - Senior Vice President, Investor Relations
There's a question from Dan Barceló of Banc of America here... and are you able to provide any update on the expected merger synergies from the Hydro deal.
Lars Troen Sørensen - Senior Vice President, Investor Relations
I think, I'll just answer that question, actually, because I started in my introduction with saying that we can't give you any update on what's happening with the merger and that also gives -- that also goes for the synergy. We have to close the deal first and then we can update you on synergies as we go along.
Lars Troen Sørensen - Senior Vice President, Investor Relations
And then -- but then there is a question from Peter Ramsay at Argus Media; which also goes on the merger. Do you have any figures on staff retention of Hydro and Gas personnel on positions currently allocated within, sort of, Hydro?
Unidentified Company Representative
I am not quite sure that I understood the question but obviously there is... most people that comes from the oil... had oil and gas business is going to be continue and be a part of the new company, and there has been very few people leaving in the situation that we have seen, and so we don't see sort of this as an issue. But I don't know... I'm not quite sure I understood the question correctly.
Lars Troen Sørensen - Senior Vice President, Investor Relations
Okay. We are almost... well, Peter Ramsay is here again. Can you give us an update on partner discussions on the 12 further development project? When might the PDO be submitted and is there any timescale for increased gas delivery to Europe and when these might arrive?
Unidentified Company Representative
There is basically no news. The license group is working on the plans for the 12 further development and at least we are not looking at a PDO this year. So, we are into next year. But beyond that in terms... to be more specific on time schedules, I have no information.
Lars Troen Sørensen - Senior Vice President, Investor Relations
There is a question from Iain Armstrong at Brewin Dolphin. What proportion of your capital employed is currently not earning an economic return?
Unidentified Company Representative
To my knowledge there is no assets that we are involved in that we are not making good returns on at the moment. We have seen no negative numbers actually walking through. All our numbers stood now in the second quarter. So, broadly speaking I think we are happy with more parts of our business at the moment that also includes the downstream as well.
Lars Troen Sørensen - Senior Vice President, Investor Relations
We have a question here from Oslo.
Unidentified Analyst
What tax rate can we expect in the natural gas segment going forward?
Unidentified Company Representative
And again to my expert here.
Unidentified Company Representative
Okay, well. What to expect... the last two quarters have been more typical when it comes to home metro, the results is related to natural gas, we've seen all the internal prices is making the margin into Norway. But in general, some you should probably see a tax rate, most of the business is in the NCS segment, which is 78% margin tax rate, but then you have some results especially at the coastal plant, which is on the onshore tax part. So, in the 60s, it's probably good assumption.
Lars Troen Sørensen - Senior Vice President, Investor Relations
Right. We'll take one from Theepan again from Morgan Stanley. Costs... most of your peers are seeing further cost inflation. Can you give us some color on what you see and how much you are able to mitigate for further years?
Eldar Sætre - Chief Financial Officer and Executive Vice President
I think the whole industry is facing the same cost challenges, and we have seen some... on new developments... we have seen some quite significant cost increases on development projects, obviously, varying from project-to-project but quite significant. And we see that whether we are partnering projects or we are operating the projects ourselves. Basically I think we have been working on strategies, contract strategies and sourcing strategies for sometime now. And I think we have been able to really synchronize all our activities in terms of sourcing across the company and across operational and development projects and drilling and so on, and establishing a set of contracts and freight contracts and longer-term contracts that is our response in a way to the increasing cost pressure. That's the best we can do in the current environment to make sure that we have suppliers that we can rely on, and have a long-term relationship with and that we have contract structure which is the best possible that we can have. So, I think that's really the general... my general response to that question.
Lars Troen Sørensen - Senior Vice President, Investor Relations
You have other question from Oslo.
Unidentified Analyst
In the natural gas division there has been, for the second quarter in a row, fairly large loss for derivatives; could you comment on whether this is going to be recurring or if this is sort of just coincidence that happened twice in a row or in terms of little bit more detail on it perhaps here?
Unidentified Company Representative
In the second quarter, we didn't have much losses on derivatives; it was compared to the second quarter of last year, where there was a change, so the derivatives in the second quarter for the natural gas was minor. For the time to come, of course, it's just to predict the development of the commodities. So, I think with derivatives it will swing and there will be changes from quarter-to-quarter. But to give any guidance on how it will develop, that we can't do.
Lars Troen Sørensen - Senior Vice President, Investor Relations
There is a question from the Internet here from Junaid Shah [ph] from JP Morgan. With regards to your North American Oil Sands acquisition, how close are you to deciding on whether to install an upgrader or not?
Unidentified Company Representative
As we said, when we did the acquisition, the base case is still for us to install an upgrader. But that's the flexibility that we have in this situation and we are just now focused on getting the organization in place, the management in place and also continuing to get the approval for the Leismer Demonstration Project. That will give us the first 10,000 barrels of production late 2009 or early 2010 and then our studies to look into this is ongoing. But the base case definitely is an upgrade for the first, at least for the first phase of this project.
Lars Troen Sørensen - Senior Vice President, Investor Relations
There is a question from James Herbert [ph] at Deutsche Bank. What volumes do you expect Shah Deniz to be at by year end?
Unidentified Company Representative
I haven't got the exact number. I think the overall second quarter production was at 10,000 barrels per day for Shah Deniz and half of that in the first quarter. As I said gas is now flowing into Turkey from early July. So, we're starting to normal [ph] gas and so we will see a ramp up. All three wells are in production now, but one is injecting and supporting the production. So, we are producing from two wells, but three wells are in place and the third well or the fourth well is expected to be in production late this year. But, overall, the plateau production on the Shah Deniz, we will not see full plateau production until two to three years ahead. So, but an exact number guidance for the full year... I haven't got that number for you actually.
Lars Troen Sørensen - Senior Vice President, Investor Relations
There is question from Patrick Giler [ph] at Merrill Lynch. Could you please give us an update on when you expect to receive gas from the Melange [ph] field and whether you believe early flows will need to report expected production levels of 20,000 to 30,000 cubic meters per day?
Unidentified Company Representative
I can't confirm that the numbers here, but our pure refer to in this case is just the efficient platform Melange [ph] which is a production startup from the 1st of October to the extent the operator is able to deliver the gas before that we would be very happy.
Lars Troen Sørensen - Senior Vice President, Investor Relations
Okay. I think we are almost done. There are couple of questions in... one from Theepan with that some excellent exploration success, I know it's early days but can you give some indications of which were high impact or the ones you have been most encouraged about?
Unidentified Company Representative
Well. As I just said on the Norwegian continental shelf, I mentioned the... in particular the Onyx discovery and the Ermintrude discoveries on the NCS, those have been very important for us this quarter. And on the International, the Rosebank obviously that we have discussed has been also very, very important and maybe the most significant so far and on the International side.
Lars Troen Sørensen - Senior Vice President, Investor Relations
One more question from Oslo. There is a couple of questions left on the Internet but they are extremely detailed, and I think we would actually answer them from Investor Relations directly to the ones... other question, because I think it's going to be very complicated to do it here actually.
So, with this I thank you very much for listening in and good bye.
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