Monday, August 29, 2011

Iraq oil hopes rise with new venture

A recent spate of London-listed oil companies entering Kurdistan has boosted hopes of an agreement with Iraq’s central government that could lead to a significant increase in crude exports.

Ever since the UK government installed King Faisal as the first ruler of modern Iraq 90 years ago Kurdistan has been touted as the oil province of tomorrow. The industry’s interest is obvious: Kurdistan’s fabled soils hold some 45bn barrels of oil and between 100,000bn-200,000bn cubic feet of gas, according to estimates by Ashti Hawrami, natural resources minister in the Kurdistan regional government (KRG).
Under a landmark deal negotiated with Iraq in February, Kurdistan currently receives half of all revenue from the oil it exports, allowing producing companies, such as Turkey’s Genel Energy, China’s Sinopec and Norway’s DNO, to recoup their investment costs.

“There are very few places left in the world with onshore prospects like it,” says Paul Atherton, chief financial officer of FTSE 250 group Heritage Oil. “But first-mover advantage is key.”

The semi-autonomous region currently exports an average of 175,000 barrels per day equivalent through Iraq’s state oil marketing board according to the oil ministry, a figure officials project will rise to 200,000 b/d by the end of the year.

In May the KRG received its first oil payment from Baghdad of $243m, equivalent to 50 per cent of net revenues from the export of more than 5m barrels of oil between the start of February and March 27. But it is hoped Kurdistan will substantially increase exports – to 1m b/d by 2015 – once the long-awaited federal revenue sharing law is finalised, which could guarantee the KRG about 17 per cent of total oil revenue from Iraq.

It would also mean oil companies’ contracts with the KRG – currently illegitimate in the eyes of Baghdad – would finally be recognised.

Region’s potential remains untapped

For retail investors willing to take a gamble, the benefits of investing in companies with substantial operations in Kurdistan are obvious, writes Christopher Thompson.

“There remain few places in the world that allow energy companies access to significant resources under a relatively low-cost structure within a region that claims a better than average historical drilling success rate,” said Gerry Donnelly, vice-president of FirstEnergy Capital, the energy investment dealer. “But you need the stomach for the political, economic and, occasionally, geological risk.”

Gulf Keystone Petroleum is the best known of the London-listed Kurdistan- focused miners. Since discovering oil at its Shaikan licence in 2009 – with a resource estimate of up to 10.8bn barrels – GKP has risen to become the fifth- biggest company on Aim by market capitalisation. It is currently considering a move up to the main board, which could be bolstered by exports projected for this year.

However, its shares have fallen 27.5 per cent, or 38.2p, this month as investors have fled riskier equities.

“Kurdistan is for the risk-seeking investor and when things go risk adverse [companies there] will get hit,” said Werner Riding, an analyst at Ambrian.

Heritage Oil is a slightly different case. In May 2009 its shares rose by a quarter when it struck commercial volumes of oil in its Miran West licence. When, after an appraisal well was completed in January this year, it found the discovery to be predominantly gas, its shares tumbled 29 per cent on perceived difficulties in developing the reserves. Its shares have fallen 26.4 per cent since the end of July.

Aim-quoted Sterling Energy, which drilled a dry hole in July and has seen a concomitant drop in its share price, reminds investors that not every Kurdistan well contains hydrocarbons. However, with Afren and Petroceltic International entering the region, investor appetite has not been sated.

Mr Riding said that it could be some time before Kurdistan’s undoubted potential was realised: “The risk is there and you’ve got to take a view on that – but long term, the value is in the assets.”

According to a person at the KRG oil ministry who asked not to be named, the regional government thinks an agreement could be reached by the end of the year. The February deal is, according to the person, “a confidence-building measure” and Baghdad needs the extra revenue.

“We calculate Iraq has lost billions of dollars because of past disagreements about Iraq’s constitutional requirements about oil and gas exports,” the person says, adding companies will be allowed to export at international prices. “The current plan is an interim agreement ... we’re focused on business not ideology here.”

The recent flurry of interest from London-listed companies suggests political risk is on the wane – and a desire to snap up the region’s low-hanging fruit before its too late is on the increase.

London-listed Gulf Keystone Petroleum has been producing small volumes for the local market since October 2010. The company is now in the process of commissioning exports with the KRG targeting 10,000 b/d by the end of the year.

In late July, Aim-quoted Petroceltic, along with the US independent Hess, committed itself to a $72m exploration campaign in two oil blocks in Kurdistan, as did Spain’s Repsol.

“Kurdistan’s attraction is that it’s highly prospective,” says Brian O’Cathain, chief executive of Petroceltic. “Its one of the few places left where you can see undrilled [prospects] using Google Earth which are full of oil. They’re the type of targets people were drilling in 1910.

“The size of new companies gaining entry is getting larger so the prize seemed to be moving away from us,” says Mr O’Cathain. “We didn’t want to miss the opportunity.”

On the same day as Petroceltic’s announcement, the FTSE 250 upstream company Afren, hitherto focused on Nigeria, said it would pay Moldova’s Komet Group $418.7m for a 60 per cent stake in the Barda Rash field and $169.5m to the KRG for a 20 per cent stake in the nearby Ain Sifni field.

The onshore assets have combined estimated resources of 890m barrels of oil according to the company, which is Afren’s only asset outside Africa.

Osman Shahenshah, Afren’s chief executive, says there are certain parallels between Nigeria and Kurdistan that have allowed independent companies to enter the market.

“In Nigeria the majors are not participating because they’re selling down; in Kurdistan they’re not participating because they’re in the south.”

According to Samuel Ciszuk, a senior Middle East energy analyst at IHS, the main reason why oil majors such as Royal Dutch Shell and ExxonMobil – with big projects in Iraq – have not moved into Kurdistan is in part because of not wanting to antagonise Baghdad.

“Most of the ‘de-risking’ of Kurdistan is based on faith in a deal [with Baghdad] will be reached,” he says. “Companies that have gone in now want to take a bet – that if you have a deal on paper the valuation will be completely different.”

Last month Vallares, the oil and gas acquisition vehicle set up by Nat Rothschild and former BP chief executive Tony Hayward, was reportedly considering investing in Genel.

One of the region’s biggest producers, Genel has interests in seven licences and minority stakes in the Taq Taq and Tawke oilfields which have a combined production of 110,000 b/d.

However, with much of the most prospective acreage already owned, many analysts believe Kurdistan could become a hive of merger and acquisition activity as new entrants attempt to gain market access.

“The upstream opportunities available in Kurdistan – large onshore undiscovered resources – are diminishing worldwide,” says Phil Corbett, an oil and gas analyst at Royal Bank of Scotland. “If you want to go you’ve got to buy companies or farm in to existing concessions, so I think we’ll see a lot of corporate activity going forward.”

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