The Gulf Keystone Petroleum Limited CPR: Buy in or sell out?

Onshore oil installationI’m not sure what Todd Kozel, the CEO of Gulf Keystone Petroleum Limited (LON:GKP) was expecting, but the firm’s first ever Competent Persons Report (CPR), which valued the firm’s proven  and probable reserves at just $1bn, received a brutal reception from the markets yesterday. As I write, the firm’s shares are down by 28% on Monday’s opening price.

The question is why. Have Kozel & co been guilty of overhyping the 14bn barrel oil-in-place figure, or have markets overreacted to what appears to be a very conservative CPR, with far more upside than downside?

What happened?

The firm issued an update yesterday confirming that the firm’s plans for 2014 are still on track:

  • Move from AIM to main market will be complete by the end of March 2014
  • Production still around 10,000 bopd, targeting between 20,000 and 40,000 bopd in 2014
  • Working on debt funding to pay for next stage of development, targeting 100,000 bopd
  • First ever CPR published

The first three points are as expected — the next ‘interesting’ geological piece of news should be the results from the Shaikan 7 well, which are due in the next few months.

It was the CPR that seemed to shake investors out of their positions, regardless of cost, and here’s why — the report said that the firm’s current proven and probable (2P) reserves will generate a profit of just $1bn. The resulting fall in the share price has cut Gulf Keystone’s valuation to just $1bn, suggesting that investors have been scared by the CPR and/or they have little confidence in Gulf Keystone’s ability to move beyond the first stage of development.

Short-sighted?

By valuing Gulf Keystone at no more than the discounted earnings expected from its current reserves, Mr Market is probably being short sighted. To help clarify the situation, I’ve put together some of the key figures below.

  • Shaikan 2P reserves: 299 mmboe (163 mmboe net, diluted to GKP)
  • Total 2P reserves and 2C resources: 1,323 mmboe (739 mmboe net, diluted to GKP)
  • NPV10 of Shaikan Phase 1: $1bn

(2C contingent resources are considered to be recoverable but have not yet been shown to be commercially viable)

It’s reasonable to expect that a substantial portion of the 2C figures will be come 2P reserves in due course. It’s also possible that the recovery factor — the proportion of the oil in place that can be successfully extracted — will be higher than the fairly conservative assumption made in the CPR.

In either case, the figures suggest to me that Gulf Keystone should have little trouble growing its 2P reserves from the CPR’s cautious 299 mmboe baseline.

Finally, the big difference between the diluted and undiluted figures requires an explanation of its own, in my view, as it could have a material affect on the company’s future valuation.

Diluted or not?

Gulf Keystone currently has a 75% working interest (WI) in Shaikan, while its associated company, Texas Keystone International, has a 5% interest. However, Gulf Keystone’s original licence included an option for the Kurdistan Regional Government (KRG) to take up an interest of up to 20%, and for a third part nominated by the KRG to take a further 15%.

So far, so predictable. In an uncharacterically coy move, however, Gulf Keystone asked ERC Equipoise Limited (ERCE), the company which produced the CPR, to assume that all options were fully taken up — even though the fiscal terms for these options have expired.

My reading of this is (and it’s only my opinion) is that Gulf Keystone is covering its back ahead of its main market listing, and also that it won’t risk derailing its strong relationship with the KRG for the sake of a contractual technicality. By assuming that GKP’s interest in Shaikan will be diluted as originally planned, there’s no downside — if it doesn’t happen, the the firm will simply make more money from the same capex.

How much upside?

GKP’s first CPR has brutally and effectively established a baseline for the valuation of the company. It’s conservative, relatively undemanding, and almost certain to be exceeded — but by how much?

Would-be buyers eyeing the company now must surely see a bargain. Not only has ERCE been conservative in its valuation, but it has also assumed lower recovery rates than those achieved by other established operators in the region.

A failure to deliver future 2P and 2C upgrades from this point would be very surprising indeed. The Shaikan 7 well, currently drilling, is targeting the lower Triassic and Permian intervals and could indicate significant new resources across all blocks.

Given the firm’s drilling success rate on Shaikan so far, it’s reasonable to expect that many of the planned development wells will deliver as expected, too.

Finally, in addition to Shaikan, GKP also operates the Sheikh Adi field (80% WI), which already has 2C resrouces of 155 mmboe, while the firm also has non-operated interests in the Ber Bahr and Akri-Bijeel fields.

As with all frontier operations, risks remain with Gulf Keystone, but I’ve no plans to sell my shares and am debating whether to average down by buying a few more at the current price.

UPDATE: In the interests of disclosure, subsequent to publishing this article I decided to average down and increase my holding in GKP.

Disclaimer: This article is provided for information only and is not intended as investment advice. The author may own shares in the companies mentioned in the article. Do your own research or seek qualified professional advice before making any purchase decisions.

Heritage Oil PLC Delivers 17% Production Boost & Dividend Promise

Onshore oil installationInvestors in Heritage Oil PLC (LON:HOIL) have enjoyed a fairly lively ride over the last year — the firm’s share price has dropped to sub-140p lows twice, before rebounding back to bounce off apparent resistance at 200p.

However, Heritage shares edged through to rise above 200p last week, and this week’s trading update made it clear why:

Production: Net production to Heritage has risen by 17% to 15,600 bopd since the fourth quarter of 2013, boosting revenue and cash flow.

There have already been three liftings (sales) of oil this year, and liftings are expected monthly from now on. Gas compressor installation and scheduled maintenance and refurbishment of existing equipment is continuing to improve production, and development drilling is scheduled to begin later this year.

Tax: Heritage, and its Nigerian subsidiary Shoreline Natural Resources, have agreed a favourable tax settlement with the Nigerian authorities which should results in a “benefit … to be recognised in the 2013 year-end results”, according to the firm.

Locking-in gains: It’s worth remembering that Heritage was one of the first movers in Kurdistan, and is thus far the only firm to have negotiated a profitable exit from the region; the sale to Genel Energy of its Miran Block helped fund the purchase of Heritage’s stake in OML30.

Heritage’s purchase of OML30 also seems to have been structured to allow Heritage to lock in early gains — the firm’s Nigerian operating company, Shoreline Natural Resources, is a JV with Nigerian firm Shoreline Power.

At the end of 2012, Shoreline Power confirmed that it would exercise a call option enabling it to increase its interest in OML30 from 55% to 70%. The end result is that Heritage’s interest in OML30 will be reduced to 30%, in return for a payment of $100m, the first $31.5m of which it is due to receive shortly.

Dividends: All of which leads us nicely to the topic of dividends. It’s not the first time Heritage CEO Tony Buckingham has mentioned his goal of paying a sustainable dividend, but it’s now a more achievable goal and might even become reality quite soon, when the firm announces its 2013 final results at the end of April.

By my rough reckoning, Heritage’s cash balance must be in the region of $200m, and with only 277m shares, a 1-2p per share dividend would be easily affordable, without making too much of a dent in the firm’s development and exploration budgets.

What’s next?

As you can probably tell, I’m a big fan of Heritage, and of its buccaneering CEO, Tony Buckingham, in particular.

The firm’s share price has risen by almost 20% this week, taking it to within a whisker of my original 250p price target, which is now under review, as I think there’s more to come, and intend to hold.

Disclaimer: This article is provided for information only and is not intended as investment advice. The author may own shares in the companies mentioned in the article. Do your own research or seek qualified professional advice before making any purchase decisions.

Vodafone Shareholders: Is Your Verizon Wireless Payout Looking For A Home?

Fifty pound noteMany column inches and much hot air has been expended on discussing where the $84bn currently being returned to Vodafone Group plc (LON:VOD) shareholders — many of whom are British — will be reinvested.

Other large cap, high-yielding shares from the FTSE 100 seem to be a popular choice, but one share that hasn’t been mentioned very much is Vodafone. Indeed, the UK’s largest telecoms stock by market capitalisation seems to have been written off somewhat, which I think is a bit unfair.

In my view, reinvesting the proceeds of the Verizon Wireless sale in Vodafone stock has much to recommend it for private shareholders, from both fundamental and portfolio management perspectives.

In a new article for the Motley Fool, I set out the (re)investment case for Vodafone in more detail, and explain why it’s one of my preferred options.

Disclaimer: This article is provided for information only and is not intended as investment advice. The author may own shares in the companies mentioned in the article. Do your own research or seek qualified professional advice before making any purchase decisions.

Activist Gyllenhammar Takes 12% Stake In Trap Oil Group PLC: Time For Action?

Oil rigs in North SeaInvestors in Trap Oil Group PLC (LON:TRAP) may have noticed heavy trading in the firm’s shares over the last fortnight.

The upshot of it is that non-executive director Miles Newman has halved his 10% holding to 5.11%, and JPMorgan Asset Managment has reduced its holding to below 5%, while well-known Swedish activist investor Peter Gyllenhammar, who is a small cap specialist, has taken a 12% stake in the firm.

Unlocking Trapoil’s value?

Gyllenhammar’s modus operandi is to take a major stake in underperforming small caps and then, often, to secure a seat on the board and start encouraging the management to deliver. In the case of Trapoil, the hidden value is clear: according to the firm’s most recent update, it has £16m of cash and holds 4.1m shares in IGas Energy plc which are worth almost £5m at the time of writing.

In other words, Trapoil’s £21m market cap is completely covered by cash and the value of its IGas shares. The market is currently attaching zero value to Trapoil’s ongoing revenues from its 15% stake in Athena, and no value to its portfolio of North Sea licences and proven discoveries.

Gyllenhammar clearly believes, as I do, that there is some value in Trapoil, and it’s about time the management showed shareholders how they intend to realise some of this value. In my view, Gyllenhammar’s involvement is a positive development that should stabilise the firm’s share price, and hopefully lead to some more concrete progress in developing or monetising Trapoil’s assets.

I continue to hold.

Update 07/04/2013: Since I wrote this post in February, Peter Gyllenhammar has continued to acquire Trapoil shares and now owns 15.1% of the company. No doubt he has already made his number with the firm’s board … The first clues of any changes may be in the final results, which should be due very soon (they were published on 28 March in 2013).

Disclaimer: This article is provided for information only and is not intended as investment advice. The author may own shares in the companies mentioned in the article. Do your own research or seek qualified professional advice before making any purchase decisions.

Is It Time For Ocado Group PLC Investors To Cash Out?

Ocado delivery van

An Ocado delivery van (source: Wikimedia / Waggers)

As Ocado Group PLC (LON:OCDO) continues to turnover vast amounts of money without making a profit, is it time for shareholders to follow the example of directors Jason Gissing Robert Gorrie, and cash in on the company’s record share price?

Ocado is something of an investment enigma.

The firm has never made any money, and its shares spent most of 2012/13 languishing below 100p — until May 2013, when Ocado announced a deal with Wm Morrison Supermarkets to provide an online food operation for the Bradford-based supermarket.

Since then, Ocado’s share price has quadrupled, but last week’s results suggest that much of this optimism has been overdone.

Ocado’s sales rose by 18.6% to £852m in 2013, but distribution (i.e. delivery) costs rose even faster, and were up 20% to £200m. The end result was that Ocado’s operating profit before exceptional items was, er, £1m, down from £5.3m in 2012.

The firm’s business model doesn’t appear to work — despite a healthy gross margin of 30%, the firm’s costs mean that even with nearly £1bn of sales, Ocado can only break even at an operating level.

Although the Morrisons deal has yet to make a material contribution to Ocado’s revenues, it seems unlikely that the firm’s margins on Morrisons sales will be any fatter than they are on its own account sales — an assessment backed by retail analysts at Shore Capital, who believe the Morrisons deal won’t be profitable for Ocado until 2018.

Director dealings

I’m not surprised that after 14 years, Ocado co-founder and director Jason Gissing has had enough and is leaving to spend more time with his family and explore other interests.

Gissing (or rather a company registered in the British Virgin Islands acting on behalf of ‘The Jason Gissing Life Settlement II’ trust) sold £15m of Ocado shares on the day his departure was announced, leaving the former Goldman Sachs bond trader with a further 14m shares.

Although director dealings are not gospel, in my experience, large share sales by senior directors often presage a peak in a firm’s fortunes, especially when multiple directors sell at once, as happened here. Ocado non-exec Robert Gorrie, who has been on the board since 2000 (previously as Logistics Director), sold 40% of his holding in Ocado on the same day as Gissing, netting himself nearly £1.4m.

Gorrie is a transport and logisitics expert, so one explanation for his sale might be that he doesn’t think Ocado’s burdensome distribution costs are likely to fall anytime soon…

Update 26/02/2013: Ocado non-executive director Douglas McCallum joined the exodus yesterday, selling 85% (58,000) of his shares in the firm.

A recipe for a correction?

Ocado currently trades on a 2014 forecast P/E of 178 — a ludricous valuation for any company, let alone one that hasn’t made a profit.

In contast, online clothing marvel Asos – a consistently profitable company for whom international expansion is relatively simple, as its products aren’t perishable or temperature controlled and don’t require timed delivery slots — trades on a 2014 P/E of ‘only’ 97.

Although Ocado bulls have high hopes that the firm will roll out its model internationally, I’m not sure this will be quick or easy — a suspicion strengthened by Gissing and Gorries’ share sales.

Ocado’s share price has continued rising since its results were published, but I’m wondering whether this is simply a case of the overhang clearing from the two directors’ share sales: in my view, the company’s share price is ripe for a correction, and I’ve recently opened a small short position accordingly.

Disclaimer: This article is provided for information only and is not intended as investment advice. The author may own shares or have a short position in the companies mentioned in the article. Do your own research or seek qualified professional advice before making any purchase decisions.