Expert Report on Investment in Santos Limited by Harbour Energy

This expert report evaluates the offer of takeover by Harbour Energy to Santos Limited and measures the financial performance of the company through trend analysis, financial ratio analysis, and investment ratio analysis. The report concludes that while the offer is attractive, the financial factors of the company must be considered before accepting the proposal.

Independent Expert
Report
Expert report about investment in Santos
Limited
[Ye
ar]
Student’s Name
[Santos Limited]
26/5/2018

ABN 1234567
AFS License no. 123123
Level 68, 268 High street
The Board of Directors Sydney NSW Australia
Santos Group Limited Telephone: [phone]
PO Box 344 Fax: [phone]
Whyalla www.patrickcorporationlimited.com
South Australia 5600
Australia.
25 May 2018
Subject: Offer of takeover by Harbour energy

Dear board of directors and top level management,
Introduction:
1. On 3rd April 2018, a bid has been offered by Harbour energy limited to Santos limited. A
statement has been announced by Harbour energy limited which is explaining about the
bid price. The statement explains that in the next few months:
a. Harbour energy limited is planning to take over the business Santos limited through
purchasing the stock of Santos Limited.
b. Harbour energy limited has planned to offer US $ 4.98 per share which is AUD 6.5.
The company has explained in the bid statement that the AU $ 6.13 per share and
37% shares as franked dividend would be offered by the company to the shareholders
of Santos Limited.
c. The stock price of Santos limited has been measured from Australian stock exchange
on 2nd April 2018. It was $ 5.07.
d. The market price of Santos Limited is just $ 5.07 whereas the Harbour limited is
offering $ 6.5 to each shareholders of the company.
e. Part d explains that the deal is quite influence and attractive for the shareholders of
Santos Limited.
2. The bid statement of Harbour limited explains that the shareholders who are interested in
the acquisition process would got $ 6.13 per share and the shareholders who are not ready
to accept the proposals would get fully franked dividend.
3. Harbour energy limited is the major player in the US energy industry. It explains about
the better position and performance of the company.
Company overview:

4. Santos limited is operating its business under the Australian oil industry. The major
market share of the company is in Australia itself. The company produces and delivers
natural gas to its customers.
5. The main operations of Santos limited includes exploration of natural gas, production of
natural gas, development of natural gas and sales of natural gas to the Australian clients
as well as international clients of the company.
6. Santos limited is known in the Australian market as second largest independent oil and
gas Production Company.
7. In 1954, Santos limited has been founded and it started operating its business in
Australian market (Home, 2018).
8. The production process of the company includes ethane, shale gas, methane, liquid
petroleum gas and oil.
9. The annual report of Santos limited explains about huge decrement in the revenue and the
profitability level of the company.
10. The deal which has been made by Harbour energy limited to Santos limited has been
studied and it has been recognized that in general, the offer is attractive but if other
financial factors of the company are concerned in the report than this could offer different
outcome to the company.
Summary of opinion:
11. General overview on the financial performance of Santos limited explains that the
Harbour energy limited has offered a good base to the company and the offer must be
accepted by the company.
12. However, the review of the financial [performance industry evaluation and various
valuation method explains that the deal is not competitive and Santos Limited must think
about the offer again.

13. Following are few points which has been evaluated to identify the performance of the
company:
Trend analysis:
14. Study on trend analysis has been done to measure the performance of the company and
evaluate the harbour energy limited offer to Santos Limited (Horngren, 2009).
15. Trend analysis is a financial statement analysis study which is calculated by the
professionals to measure the changes into the income statement, balance sheet and cash
flow statement of the company.
16. The trend analysis evaluation on the financial statement of Santos limited, has been
measured to recognize the changes into the final statement of the company. On the basis
of the trend analysis, it has been found that the total revenue of the company has been
improved by 11.12% in the year of 2017.
17. As well as, the net loss position of the company has also been improved by 68.10%. It
briefs that the company has improved the financial performance of the company (Kinsky,
2011).
18. The trend analysis also explains that the earnings position of the company has also been
improved.
19. The trend analysis on income statement are explaining about better performance of the
company and explains that the company should not involve in any acquisition process for
now as forecasting process explains that the performance of the company would be
better.

Item Dec-14 Dec-15 Dec-16 Dec-17
Operating Revenue 10.88% -19.59% 10.44% 11.12%
Other Revenue 117.65% -17.57% 330.45% -8.21%
Total Revenue Excluding Interest 11.86% -19.56% 16.34% 9.80%
Reported NPAT After Abnormal -281.20% 188.56% -46.37% -68.10%
EPS Adjusted (cents/share) 5.05% -967.59% -83.76% -71.25%
20. In addition, the trend analysis has been done on the balance sheet of the company. On the
basis of the study, it has been found that the total current asset of the company explains
about the decrement in the company.
21. The noncurrent assets and the total assets level have also been lowered by the company to
manage the capital structure as well as the efficiency position of the company (Garrison
et al, 2010).
22. The liability position and the equity stockholder’s position have also been improved by
the company. It measures and explains about the changes into the performance of the
company.
Item 12/14 12/15 12/16 12/17
Total Current Assets-0.63% 29.31% 28.35% -61.25%
Total NCA 8.62% -6.71% -11.70% -13.10%
Total Assets 7.77% -1.91% -3.96% -20.03%
Total Liabilities19.60% -10.30% -3.68% -34.55%
Total Equity -8.49% 7.73% -4.27% -6.72%
23. The industrial changes, economical changes etc have affected on the financial statement
and the financial performance of the company.
24. The trend analysis study explains that the financial position and the financial performance
of the company have been better.
Financial ratio analysis:

25. Further, the study has been done on the fundamental ratios to measure the performance of
the business and the conclusion about the acquisition process of the Santos limited and
Harbour energy limited.
26. Initially, the study has been done on the profitability ratios of the company to measure the
profitability level and the presentation of the company. The return on capital employed
(ROCE), operating profit margin (OM) and gross profit margin (GM) explains that the
position of the company has been improved from last 5 years (Hansen, Mowen and
Madison, 2010).
Ratio Calculations 2013 2014 2015 2016 2017
Profitability Ratios: 2013 2014 2015 2016 2017
Return on Capital employed
Operating profit / -1,93,20,00,000 -2,27,80,00,000 -9,28,10,00,000 -4,39,60,75,179 -3,69,35,89,743
Capital employed (total assets - current liabilities) 18,88,30,00,000 20,39,90,00,000 20,65,30,00,000 18,94,14,04,091 16,35,25,64,102
Answer: % -10.23% -11.17% -44.94% -23.21% -22.59%
Gross Profit Margin
Gross profit / 1,74,30,00,000 1,83,30,00,000 5,97,40,00,000- 54,86,45,660- 53,07,69,230
Sales Revenue (note used operating revenue) 3,67,50,00,000 4,11,10,00,000 3,30,70,00,000 3,84,74,29,519 4,22,43,58,974
Answer: 47.4% 44.6% -180.6% -14.3% 12.6%
Operating profit margin
Operating profit / -1,93,20,00,000 -2,27,80,00,000 -9,28,10,00,000 -4,39,60,75,179 -3,69,35,89,743
Sales Revenue % 3,67,50,00,000 4,11,10,00,000 3,30,70,00,000 3,84,74,29,519 4,22,43,58,974
Answer: -52.57% -55.41% -280.65% -114.26% -87.44%
Santos Limited
(Morningstar, 2018)
27. Further, the liquidity ratios have been measured to evaluate the short term debt obligation
of the company. The current ratio and quick ratio explain that the risk position of the
company has been improved from last 5 years.
Liquidity Ratios 2013 2014 2015 2016 2017
Current Ratio
Current Assets / 2,07,80,00,000 2,06,50,00,000 2,92,10,00,000 4,07,68,38,032 2,52,82,05,128
Current liabilities 1,72,60,00,000 1,94,60,00,000 1,27,30,00,000 2,15,03,59,314 1,21,92,30,769
Answer: 1.20 1.06 2.29 1.90 2.07
Acid test ratio
Current Assets - Inventory / 2,07,80,00,000 1,74,40,00,000 2,50,20,00,000 3,63,38,38,032 2,03,32,05,128
Current Liabilities 1,72,60,00,000 1,94,60,00,000 1,27,30,00,000 2,15,03,59,314 1,21,92,30,769
Answer: 1.20 0.90 1.97 1.69 1.67
Santos Limited

28. In addition, efficiency ratios have been measured to evaluate the efficiency position of
the company. The payment turnover, receivable turnover and inventory turnover ratio
explain that the efficiency of the company has been lowered from last 5 years..
Asset Efficiency Ratios 2013 2014 2015 2016 2017
Trade payable payment period ratio
Accounts payable/ 0 1,23,50,00,000 1,38,20,00,000 84,90,00,000 71,86,29,076
Cost of sales 1,93,20,00,000 2,27,80,00,000 9,28,10,00,000 4,39,60,75,179 3,69,35,89,743
Answer: (note the above needs to be x 365) 0.0000 197.8819 54.3508 70.4913 71.0148
Inventory Turnover (days)
Average Inventory / 0 32,10,00,000 41,90,00,000 44,30,00,000 49,50,00,000
Cost of Sales # days 1,93,20,00,000 2,27,80,00,000 9,28,10,00,000 4,39,60,75,179 3,69,35,89,743
Answer: (note the above needs to be x 365) 0.00 51.43 16.48 36.78 48.92
Receivables Turnover (days)
Average trade debtors / 3,10,00,000 1,00,00,000 60,00,000 69,09,894 -
Sales revenue (note used operating revenue) # days 3,67,50,00,000 4,11,10,00,000 3,30,70,00,000 3,84,74,29,519 4,22,43,58,974
Answer: (note the above needs to be x 365) 3.08 0.89 0.66 0.66 0.00
Santos Limited
29. Lastly, the investment ratio and capital structure ratio have been measured to evaluate the
investment and risk position of the company. The various ratio of investment and capital
structure explain that the risk position of the company has been improved from last 5
years.
Capital Structure Ratios 2013 2014 2015 2016 2017
Gearing ratio
Long term liabilities / 8,67,10,00,000 10,98,60,00,000 10,45,10,00,000 9,15,69,92,813 7,18,46,15,384
Capital employed 18,88,30,00,000 20,39,90,00,000 20,65,30,00,000 18,94,14,04,091 16,35,25,64,102
Answer: % 0.459 0.539 0.506 0.483 0.439
Interest Coverage Ratio
EBIT / -1,93,20,00,000 -2,27,80,00,000 -9,28,10,00,000 -4,39,60,75,179 -3,69,35,89,743
Net Finance Costs (used net interest expense) 6,20,00,000 11,60,00,000 29,70,00,000 40,90,65,782 37,69,23,076
Answer: times p.a -31.161 -19.638 -31.249 -10.747 -9.799
Santos Limited

Investor's Ratios 2013 2014 2015 2016 2017
Earnings per share
Net income 50,40,00,000 53,30,00,000 -5,44,60,00,000 -1,38,05,97,014 -45,89,74,358
Weighted average shares outstanding 96,72,88,518 97,81,66,528 1,15,19,77,771 1,79,78,96,876 2,07,88,58,067
Answer: 0.521 0.545 -4.728 -0.768 -0.221
Dividend coverage ratio
Net income / 50,40,00,000 53,30,00,000 -5,44,60,00,000 -1,38,05,97,014 -45,89,74,358
Dividend paid to shareholders 15,70,00,000 19,60,00,000 21,50,00,000 5,94,25,096 0
Answer: 3.210 2.719 -25.330 -23.233
Santos Limited
30. The overall performance and evaluation explains that the position of the company has bee
improved.
Valuation analysis:
31. The valuation model has been applied on the company to measure the intrinsic value of
the company.
32. The share price has been measured on the basis of dividend discount model, residual
earnings model and discounted cash flow.
33. Firstly, WACC of Santos limited has been measured and it has been found that the
WACC of the company is 4.52% (Baker and Nofsinger, 2010).
34. It explains that the debt and equity has been managed by the company in optimal way.

Price Cost Weight WACC
Debt 4,78,97,43,589 3.50% 34.32% 0.01201
Equity 9,16,79,48,717 5.05% 65.68% 0.03316
13,95,76,92,306 4.52%
Outstanding debt4,78,97,43,589
interest rate 5.00%
Tax rate 30.0%
Kd 3.50%
RF 2.75%
RM 10.16%
Beta 1.1100
Required rate of return5.05%
Calculation of WACC
Kd
Calculation of cost of debt
Calculation of cost of equity (CAPM)
35. DDM model has been applied on Santos Limited to measure the share price of the
company. the study explains that the stock price of the company is undervalued.
2018 2019
Dividend expected 0.37$ 0.38$
Growth rate 2.0% 3%
Discount rate 5.05% 5.05%
Intrisic Value 12 18
Share Price 6.25 6.44
Undervalued Undervalued
Dividend Discount Model
(Yahoo Finance, 2018)
36. The discounted cash flow method further explains about the higher stock price than the
market price of the company. It also measures and explains that the performance of the
company is better and stock has been undervalued in the market.

2013 ($M) 2014 ($M) 2015 ($M) 2016 ($M) 2017 ($M)
Net earnings (loss)
attributable to GE common
shareowners 51,60,00,000.00 (93,50,00,000.00) (2,69,80,00,000.00) (1,44,69,32,006.00) (46,15,38,461.00)
Add: Depreciation and
amortisations 88,80,00,000.00 98,80,00,000.00 1,05,90,00,000.00 1,02,40,46,434.00 95,12,82,051.00
Add/Less: Decrease (increase)
in GE current receivables (27,90,00,000.00) 16,00,00,000.00 9,40,00,000.00 3,18,13,710.00 (5,69,16,274.00)
Add/Less: Decrease (increase)
in inventories (9,80,00,000.00) (2,40,00,000.00) (5,20,00,000.00) 5,13,84,743.00 10,25,89,616.00
Add/Less: Increase (decrease) in
accounts payable 28,50,00,000.00 14,70,00,000.00 (53,30,00,000.00) (13,03,70,924.00) (8,40,13,692.00)
Total 1,31,20,00,000.00 33,60,00,000.00 (2,13,00,00,000.00) (47,00,58,043.00) 45,14,03,240.00
Less: Capital expenditure 1,26,20,00,000.00 1,89,50,00,000.00 1,36,60,00,000.00 75,04,14,593.00 (1,94,61,53,846.00)
Free cash flows to the firm 2,57,40,00,000.00 2,23,10,00,000.00 (76,40,00,000.00) 28,03,56,550.00 (1,49,47,50,606.00)
Less: Net Debt payments (2,20,00,000.00) (8,60,00,000.00) (2,51,60,00,000.00) (20,31,50,912.00) (3,13,07,69,230.00)
Free cash flows for equity 2,55,20,00,000.00 2,14,50,00,000.00 (3,28,00,00,000.00) 7,72,05,638.00 (4,62,55,19,836.00)
Avergae 37,35,51,409.50
Santos Limited: Past Five Year Free Cash Flows for Equity
Note: It has been found that from last 4 years, company is facin huge loss. Howvere, in 2017, the net loss was quite higher and thus the free cash flow
of 2017 has not been considerd while calcualting the average cash flow.

Past average
37,35,51,409.50
Valuation of equity taking free cash flows of equity
Year FCFF ($M)
2017 38,10,22,437.69
2018 38,86,42,886.44
2019 39,64,15,744.17
2020 40,43,44,059.06
2021 41,24,30,940.24
2022 42,06,79,559.04
2023 42,90,93,150.22
2024 43,76,75,013.23
2025 44,64,28,513.49
2026 45,53,57,083.76
Terminal cash flows 46,44,64,225.44
Estimated Free cash flows for equity

Year FCFF ($M)PVF @ 5.05% PV of Cash Flows
1 38,10,22,437.69 0.952 36,27,05,795.04
2 38,86,42,886.44 0.906 35,21,75,069.91
3 39,64,15,744.17 0.863 34,19,50,091.68
4 40,43,44,059.06 0.821 33,20,21,983.35
5 41,24,30,940.24 0.782 32,23,82,125.67
6 42,06,79,559.04 0.744 31,30,22,149.63
7 42,90,93,150.22 0.708 30,39,33,929.20
8 43,76,75,013.23 0.674 29,51,09,574.28
9 44,64,28,513.49 0.642 28,65,41,423.86
10 45,53,57,083.76 0.611 27,82,22,039.35
3,18,80,64,181.98
Terminal cash flows 46,44,64,225.44 29,39,64,69,964.36
32,58,45,34,146.35
2,07,88,58,067.00
15.67
Total value of Equity
No of Shares Outstanding
Per share value of value of equity
Present value of discrete cash flows for next 10 years
Total
Present value of terminal cash flows
37. Further, teh residual earning model explains that the stock of the company is overvalued
the intisnc price of the stock of the company should be $ 2.85 and $ 3.15.
2018 2019
Eanings per share 0.29$ 0.32$
Earnings yiled 10.16% 10.16%
Intrisic Value 2.85 3.15
Share Price 6.25 6.44
Overvalued Overvalued
Earnings Yield Ratio
(Bhimani et al, 2008)

Other matters:
38. The price earnings ratio of the comapny explains that the performance of Santos limited
would be better in near future.
39. This is among the largest private companies of Australian market in context of natural
gas explorations and sales.
Recommendation:
40. The study concludes that the offer made by Harbour energy limited is not reasonable.
41. The financial performance explains that the position of the company would be improved
in near future.
42. Current trend analysis explains that the performance of the company has already been
improved.
43. The financial ratio measured the different level of the company and explains that overall
performance has been better.
44. The valuation model also explains that the stock price is undervalued in the market.
45. Thus, Santos limited should not accept the proposal of Harbour limited.

References:
Baker, H.K. and Nofsinger, J.R. 2010. Behavioral Finance: Investors, Corporations, and
Markets. John Wiley and Sons.
Bhimani, A., Horngren, C. T., Datar, S. M., and Foster, G. 2008. Management and cost
accounting (Vol. 1). Pearson Education.
Garrison, R. H., Noreen, E. W., Brewer, P. C., and McGowan, A. 2010. Managerial
accounting. Issues in Accounting Education, 25(4), 792-793.
Hansen, D. R., Mowen, M. M., and Madison, T. 2010. Cornerstones of cost accounting. Issues in
Accounting Education, 25(4), 790-791.
Home. 2018. Santos Limited. [online]. Available at: https://www.santos.com/ (accessed 26/5/18).
Horngren, C. T. 2009. Cost accounting: A managerial emphasis, 13/e. Pearson Education India.
Kinsky, R. 2011. Charting Made Simple: A Beginner's Guide to Technical Analysis. John Wiley
and Sons.
Morningstar. 2018. Santos Limited. [online]. Available at:
http://financials.morningstar.com/income-statement/is.html?t=STO&region=aus (accessed
26/5/18).
Yahoo Finance. 2018. Santos Limited. [online]. Available at:
https://finance.yahoo.com/quote/sto.ax?ltr=1 (accessed 26/5/18).