Gulf Keystone

BUY

19/12/2011 Robert Tyerman

‘It is better to be lucky than to be good,’ reflects John Gerstenlauer, enthusiastic American chief operating officer of Gulf Keystone Petroleum, the Bermuda-based AIM company sitting on a potential 14.8 billion barrels of oil in Iraqi Kurdistan. 

As he and the company’s founder, chairman and chief executive officer Todd Kozel, survey the latest exploration and appraisal results from its Shaikan discovery in the north-west of the country (140 km south of the Turkish border) and contemplate achieving production from there of 400,000 barrels a day by 2020, investors can hardly disagree.

Profits are now in prospect for the hitherto loss-making company. Gulf’s top-level connections in Kurdistan are also enviable, despite continuing political uncertainty in the region and sabre-rattling between Baghdad and Washington over US giant ExxonMobil’s latest Kurdish move.

‘We have not drilled a dry hole,’ enthuses Gerstenlauer, following the third successive upgrade of estimated oil in place at Shaikan, a 40 per cent increase to between eight billion and 13.4 billion barrels. He suggests that there is room for ‘perhaps two more significant upgrades’ at Shaikan and would certainly agree that Gulf Keystone is having notably more luck in pursuing its goals than the silent film policemen of the same name. 

Entrepreneurial oilman Kozel, who has also founded Pittsburgh-based oil and gas explorer Texas Keystone, floated Gulf Keystone on AIM at 48p in 2004 with an array of Algerian prospects, from which he was anxious to diversify. As luck would have it, Ashti Hawrami, whose consultancy company ECL delivered the ‘Competent Person’s Report’ both for the AIM float and on the Algerian prospects, later disposed of ECL and conveniently became natural resources minister of the Kurdish Regional Government, an instance of how inhabitants of the global village of the resources business can pop up in the most useful of places. 

Houston-based consultant Dynamic Global Advisors made its latest upgrade after testing the Shaikan 2 appraisal well in a development that Gerstenlauer declares ‘validates our world-class discovery’. Gulf Keystone, which raised £125 million at 40p in September, operates the Shaikan block, where it has a 75 per cent holding – with Hungary’s MOL Hungarian Oil and Gas and Texas Keystone in for 20 per cent and 5 per cent respectively – and plans to drill another new appraisal well, Shaikan 6, early next year, when the company also intends to move its shares from AIM to the Full List.

Strategy

On the agenda now is an ‘aggressive’ programme of exploration and appraisal of Shaikan and the company’s other project in the region, which is starting to the west of Shaikan with the Ber Bahr block, where Gulf and ex-BP boss Tony Hayward’s recently floated Genel oil company have 40 per cent each. Genel, which is the operator, has come up with an initial estimate for this block of 1.5 billion barrels of oil.  

Gerstenlauer says Gulf plans to design and build an additional testing facility and production facility for the Shaikan 2 well, capable of producing a minimum of 20,000 barrels of oil a day, adding that a present upgrading of Shaikan 1 should lead to initial production of 20,000 barrels a day, meeting export specifications by the middle of 2012.

He argues that Shaikan 2 will double its production target to 40,000 barrels a day by the end of next year. Looking further ahead, he declares that Shaikan is set to become one of the three major producing oilfields in the Kurdish region of Iraq.

Drilling is also under way at the Shaikan 5 well, which, if proved, could add another two billion barrels to Gulf Keystone’s resources, according to Gerstenlauer. The company, which is engaged in selling its stake in the Akri-Bijeel block in Kurdistan for ‘several hundreds of millions of dollars’, will then take its rig to Shaikan 6, to measure how deep the resource goes, an exercise that the optimistic COO surmises could add ‘another two blocks’ to the total.

Some of this money and September’s placing proceeds will be used to carry out a number of objectives, including the completion of a pipeline to transport 440,000 barrels of oil a day from the Shaikan field to the Kirkuk-Ceyhan export pipeline, to upgrade Shaikan’s extended well test facilities and to build additional production facilities for the Shaikan 2 and 4 sites. Money will also be spent on drilling a second exploration well at the Sheikh Adi block and to acquire 3D seismic data at Ber Bahr.

Kozel says the company wants to prove the ‘full potential’ of its assets in the Kurdistan region and ‘explore and appraise at least 12 billion barrels of gross oil-in-place across our three licences’. He maintains this work will add ‘significant’ value to its working interest in Kurdistan.

Gulf paid $26 million (£16.25 million) for its stake in Shaikan, which it expects to be diluted down to 51 per cent in due course under its production-sharing contract with the Kurdish government. That agreement envisages initial production in 2015 or 2016, but the company expects early and temporary output of 30,000 to 40,000 barrels a day by the end of next year.

Gerstenlauer, who suggests that Gulf could exceed its 2020 target of 400,000 barrels a day by as much as three years, cites estimates of $7 billion for the capital cost of the project, to which the company, now valued on AIM at £1.3 billion, will have to contribute $4.5 billion (£2.8 billion). He argues that, if and when the project starts to generate only 100,000 barrels a day, ‘cash flow will pay for development’.

According to Gerstenlauer, Shaikan’s oil, which varies from light to heavy, offers ample blending opportunities. He suggests a break-even oil price for Shaikan of $17 a barrel, a low fraction of current market prices, and hints that the project could be gushing cash flow of $1 billion a year well before 2020, if all goes well.

Management

Kozel, founder and well-remunerated boss of Gulf Keystone, is a tough American oilman of the old school, who hit the US headlines recently with a colourful $100 million divorce case. A backer of Republican campaigns in the USA, he is reputed to have been early in northern Iraq after the fall of the Saddam Hussein regime, ready to parley oil deals with gun-toting Kurds in the desert.

As well as Gulf Keystone and Texas Keystone, of which he was president from 1995 to 2004, Kozel co-founded Falcon Drilling, an independent US drilling and oilfield services business, in 2001. Gulf’s chief operating officer Gerstenlauer is a marine biologist and engineer who joined the company from German chemical giant BASF’s Dutch subsidiary, though before then he spent many years with Shell in different parts of the world, later joining UMC Petroleum. 

Finance director Ewen Ainsworth is an accountant who has had senior financial roles in several oil companies, including Conoco, Texaco and Japanese-owned CIECO Exploration and Production, where he oversaw the finances of North Sea projects and operations in Algeria and Azerbaijan. Ainsworth joined Gulf Keystone after a successful stint with AIM-quoted Europa Oil & Gas. Gulf’s country manager for Kurdistan is Adnan Samarrai, who boasts more than 45 years’ experience in the Iraqi oil and gas industry, where he became chief exploration geologist at the Iraq National Oil Company. He was consulting geologist to BG International and, significantly, to Ashti Hawrami’s ECL group before joining Gulf.

Prospects

Gulf Keystone is convinced that it has potential resources in Shaikan of a similar scale to the major Middle East oilfields. The company is operating in what Genel’s Tony Hayward has described as the ‘sweet spot’ for oil assets in the north-west quadrant of Kurdistan, and analysts point to a growing interest in the area from oil companies around the world. The City is convinced that Gulf is poised to start making big money out of this venture. Analysts see the company turning last year’s $26.8 million (£16.7 million) loss into pre-tax profits of $3.7 million this year, despite a $10.4 million first-half deficit, with £68.4 million pre-tax on the cards for 2012. 

 With a friend at court in the shape of Hawrami, Gulf awaits the hoped-for ratification of Iraqi federal oil law next year, which is expected to recognise and accept previous contracts entered into by both the Iraqi Federal Government and the Kurdistan Regional Government. One potential cloud on the horizon is a row that has broken out between the Iraqi government and US oil giant ExxonMobil for signing a deal in the Kurdish region without obtaining approval from Baghdad, part of Hawrami’s drive to bring in the oil majors.

If the issue is unresolved, ExxonMobil could risk retaliation affecting its own Iraqi assets, but Gulf Keystone is not exposed there. Gerstenlauer enthuses about the new atmosphere in Iraqi Kurdistan itself.

The chief city, Arbil, has a new airport and awaits the construction of new Kempinski and Marriott hotels. He says that the company shows investors around its prospects several times a year with 

no obstruction.

Valuation

Floated at 48p in 2004, Gulf Keystone’s shares have had a volatile history, dipping below 30p four years later. More recently, successes on the ground have brought renewed support, though at the moment investors are concerned about the political background and this has helped send Gulf shares down from a 188.5p year’s high to 145p now. 

However, with countervailing factors, including good political connections and experienced local players, the company could prove far from expensive for investors willing to accept an element of risk. As well 

as the profits and cash flow that the development of Shaikan and the disposal of some other assets could generate, analysts reckon that the company is cheap on asset grounds. 

Recently, when Gulf raised its £125 million at 140p, broker Investec pointed out that this gave a value of 36 cents per barrel of oil equivalent, now 28 cents at the latest share price. That compares with the $1.5 per barrel implied in the valuation of Genel when it merged with another group, Vallares.  

As Gulf Keystone has pointed out, if it develops Shaikan along the lines it plans to, that would make a major contribution to mid-term regional production and export targets recently announced by the Kurdistan Regional Government. 

At present, the company is not paying dividends and, as its development programme continues, this policy is unlikely to change all that soon. However, as the world’s search for new supplies of oil continues, one of these days the company might well present an attractive takeover target for a thirsty major.

Tags: AIM market, Growth company, Iraqi Kurdistan

Sector: Mining

Companies: Gulf Keystone Petroleum

Market cap: £1.4bn

PE Forecast: n/a

Share price: 145p