Woodside’s Scarborough costs blow out beyond $16bn

Woodside has increased the budget for its giant Scarborough gas project off Western Australia to $16.2bn, amid cost pressures.

Woodside’s Pluto LNG plant. Picture: Woodside

Woodside Petroleum has increased the cost of developing its giant Scarborough gas project in Western Australia by 5 per cent to $US12bn ($16.2bn) while BHP could emerge as the West Australian producer’s biggest shareholder should a mooted buyout deal between the two proceed.

The market had been anticipating an increase in costs since the original budget in November 2019 after Woodside changed the scope of the project to reflect higher offshore production to be processed through an expanded Pluto LNG plant near Karratha.

Woodside said the internal rate of return for Scarborough, part owned by BHP, is greater than 12 per cent. It has a “globally competitive cost of supply” of approximately $US6.80 per million British thermal units to north Asia, with interim boss Meg O’Neill committing to make a final investment decision by the end of 2021 with first LNG in 2026.

Ms O’Neill may also be engineering a bigger deal amid rising speculation Woodside could buy BHP’s Australian petroleum unit.

BHP shareholders could emerge with a 15 per cent stake in Woodside under an all-share deal for the mining giant’s oil and gas business with the Perth producer able to snap up its “dirty assets” on the cheap, Citi analysts said.

Woodside may pay for the BHP assets with its own scrip that would then be distributed to BHP shareholders.

Ms O’Neill is juggling a raft of duties including a major company restructuring which has already seen jobs cut at its Perth headquarters along with tough conditions in WA’s resources sector which is enduring higher labour and raw material costs.

The $US12bn cost for Scarborough is split $US5.7bn for the offshore component and $US6.3bn for the onshore component.

It includes a 3 per cent cost increase in the onshore component, including modifications to Pluto Train 1 to enable processing of Scarborough gas, and an 8 per cent increase in the offshore component, including an increase in offshore production capacity from 6.5 million tonnes to 8 million tonnes of LNG and an additional well.

The budget increase was lower than some in the market were expecting given cost pressures which have emerged as major issues for the WA resources industry, Credit Suisse noted, boosting the credibility of management.

“Market concerns that costs could have increased closer to $US13bn or threatened Scarborough viability have kept some investors away from Woodside,” Credit Suisse’s Saul Kavonic said. “We see more investors may be willing to add to positions as the path forward may be risk skewed to the upside on the catalyst front.”

The new cost estimate also illustrates “Woodside did achieve ample cost reduction optimisation to largely offset steep increases in steel and labour prices”.

Woodside’s interim CEO Meg O'Neill. Picture: Jane Dempster

Macquarie had forecast higher steel prices and labour tightness in WA may add 15 per cent to the offshore budget to $US6.1bn with the onshore LNG train to cost 10 per cent more at $US6.7bn.

BHP‘s Australian petroleum assets are valued at $US4.02bn by Citi but the business could be snapped up at a 30 per cent discount for $US2.81bn by Woodside given hefty clean-up liabilities in Bass Strait and environmental, social and governance issues.

That would require Woodside to issue 173 million new shares if it were to proceed with an all-scrip bid, making BHP its biggest shareholder with a 15 per cent stake.

“Given BHP is attempting to improve its ESG optics, it’s possible Woodside could acquire their ‘dirty’ assets at a significant discount, such as the 30 per cent discount we have used,” Citi analyst Daniel Levy said.

A deal could help ease balance sheet pressure and reduce a pressing need for selldowns on its Scarborough, Pluto-2 expansion and Senegal equity. Woodside would gain BHP’s half stake in the Bass Strait, full control of Scarborough and double its share of the North West Shelf project.

Woodside wants to sanction Scarborough by the end of the year, but BHP, which owns 27 per cent, still has to agree commercial terms for any deal and is seen as reluctant to proceed by some in the market.