Gulf Keystone – Edging closure to restructure. Are the shares still a sell?

Disclaimer: Shareinvestors is not authorised by the Financial Conduct Authority to give investment advice. Terms such as ‘Buy’, ‘Sell’ and ‘Hold’ are not recommendations to buy, sell or hold securities, these statements and other statements made by the author have the meaning only to express the author’s personal views on the quality of a security. Independent financial advice from an authorised investment professional should always be sought before making investments. CAPITAL AT RISK. Full Disclaimer here.


I previously rated Gulf Keystone as a strong sell on the news of a debt for equity swap being announced in July. To be honest I have considered these shares a stonking sell all the way down from 100p, unfortunately I have nothing in writing to prove it, you’ll just have to trust me! Anyway on to my musings, there have been a string of further announcements in the past few weeks from Gulf Keystone and I thought it quickly worth reviewing what they mean for shareholders and whether this means my verdict has changed.

The most notable RNS was the open offer launch on 31st August, which saw the shares go ‘ex  open offer’. In lamens terms, this means that any shares bought after 30th August are no longer entitled to subscribe for shares under the open offer terms, i.e. the right to subscribe for 20 shares at 0.86p for every 9 shares owned.

There was also a revised Competent Person Report (CPR), a shareholder resolution regarding the proposed increase to authorised share capital and details of the scheme of arrangement for noteholders. The CPR was unchanged from the last reserves report issued in June 2016, aside from the hydrocarbons produced since and the RNSs regarding the shareholder resolution and noteholders scheme were also nothing more than formalities.

So what is the timeline from here? Is this Restructuring on track?

Gulf Keystone cleared the first hurdle on 5th August through the passing of shareholder resolution to increase its authorised share capital, this being to accommodate the new shares to be issued to get this restructuring away. No drama on the day despite various petitions being passed around on the bulletin boards, there was even word of emails being sent to Theresa May, I’m guessing she was tied up with Section 50. In the end only 26% of the total shareholder base turned out to vote, so it looks like insufficient traction and/or appetite from the largely retail shareholder base to block the move. Clearly any attempts from shareholders to block this would be ‘cutting off your nose to spite your face’, but it has happened before with other companies…

The next step is the open offer which closes on 15th September. Gulf Keystone desperately needs this cash to start a workover program to maintain production levels. Gulf Keystone’s largest shareholder, Capital has already agreed to subscribe for up to $20m of the $25m target, so this seems well within reach.

The final piece in the puzzle is the Debt Holders scheme of arrangement which should be finalised on 22nd September. This process requires 75% of the bondholders to agree to the terms of the restructuring. Nothing more than a formality, Gulf Keystone already have the support of the majority of its bondholders.

In summary the the restructuring is on track and it will almost certainly go through.

Are the shares still a sell then?

In my article on Gulf Keystone last month which was written before the shares went ex open offer the share price was then 5.12p, i.e. an effective price was 2.15p, assuming you fully subscribed to the offer. I went on to outline why I believed at that point you were still better off getting out now, and my logical target was around 1p for this company. I won’t repeat myself, have a quick read of the article for my arguments. SPOILER – I can’t see any other outcome other than a DNO takeover, or at a push a rival oil company, but I really can’t see a bidding war justifying 2.15p.

Nothing has changed since I wrote the above article and the market has started to agree with me. The share price has obviously collapsed since the shares went ‘ex open offer’, the price at point of writing is 2.39p. Amazingly though this is still actually a higher than effective price of 2.15p, which was when I published my original article. Fundamentally the shares are still 40-50% over what I believe will be the final offer price for Gulf Keystone.

If I owned the shares I would be selling my existing holdings. I would though be sure to still subscribe in full to the open offer at 0.86p, these open offer shares are in the money based on where I believe this will end up, i.e. an acceptance of DNO’s bid.

SELL, Target 1.2p (Generous)

Screening Oil Companies Resources vs. their Enterprise Value

Disclaimer: Shareinvestors is not authorised by the Financial Conduct Authority to give investment advice. Terms such as ‘Buy’, ‘Sell’ and ‘Hold’ are not recommendations to buy, sell or hold securities, these statements and other statements made by the author have the meaning only to express the author’s personal views on the quality of a security. Independent financial advice from an authorised investment professional should always be sought before making investments. CAPITAL AT RISK. Full Disclaimer here.


The average private investor can find it most confusing trying to assess a company’s share price when looking at its resource base. This isn’t helped by wild claims by some junior resource stocks (which I won’t name) on billion barrel discoveries. So I’ll briefly explain each of the internationally approved reserve classifications to assist understanding.

We can also look at some of the more popular oil company’s enterprise values versus their resource base to illustrate how you can start playing with figures and building this into your appraisal of stocks.

The below summarises the Petroleum Resources Management System, and the different classifications of reserves:

reserve classes

Reserves

Hydrocarbons that are either already on production, approved for development or justified for development, i.e. commercial reserves. The most common way of assessing a company’s resources is using 2P reserves, i.e. reserves that are already on production and those reserves where a board FID case has been passed. As the reserves should be commercial in order to be recognised then this gives the investor some confidence of a viable production business. Note – commercial is a broad term though, Afren went into administration with 200mm Boe of 2P reserves!

Contingent Resources

These are resources that are discoveries, but development potential is on hold. This could because of sub commerciality or it could be the project is viable but further work is needed to get this to a FID. i.e. there are contingencies which need to be solved before they can be booked as reserves.

Prospective Resources

Exploration Plays, Prospects or Leads. Typically undrilled or not sufficiently appraised to move to contingent resources.

How are companies able to book reserves?

To stop companies quoting utter codswallop in their reserves, a Competent Person Report is required (CPR) before a company can recognise these reserves in its financial reports.

So let’s take a look at the bulletin boards favourite companies…

I’ve looked at Gulf Keystone, Genel Energy, UK Oil and Gas, 88 Energy and Sound Energy. I’m not going to analyse these companies in detail but just make brief comments about what the results show us.

2p reserve vs ev

Genel
Very low value assigned to each barrel. The overall OPEX Boe is low, however all contracts relate to Production Share Agreements which are less lucrative. That said this is potentially an attractive valuation and could be a buy signal.

Gulf Keystone
Very low value assigned to each barrel. The overall OPEX Boe is higher than Genel as its transport is through trucking rather than pipeline. Significant CAPEX also likely required to maintain production and access these reserves.

BP
Included as Benchmark, it is hard to value BP on this basis as it only publishes a 1P figure, it also as downstream and trading operations so the figure is likely lower than illustrated above when these factors are adjusted for.

UKOG
The favourite stock of the Bulletin Board. Based on its 2P reserves UK Oil and Gas appears hugely overvalued, with its 2P reserves valued at $60 a barrel this is well in excess of current oil price and thus the current valuation must be expecting material upgrades to reserves from its exploration plays. Let’s look at that next…

resources vs ev

The above chart combines reserves, contingent resources and prospective resources so low valuations here could indicate a buy signal and represent significant growth upside.

Genel and GKP
Both have lots of potential resource which could make them good longer term growth plays. Both operate in low CAPEX/OPEX environments, any oil price rise and the KRG payment situation sorted could help significantly. However, high risk too given where they operate. However, here is where you need to be cautious, I would though not buy GKP due to the distressed financial situation it finds itself in (I wrote about this here), this highlights the importance of using analysis like this as part of your research, not basing investment decisions solely on this analysis.

88E
A one trick pony company but with some promise. A recent CPR estimates 768m barrels net. It is also looking at conventional prospects expecting results of seismic soon, this could upgrade its resource bookings further. Again a good speculative play, close to infrastructure and planning permission unlikely to be an issue unlike UK Oil and Gas.

UKOG
Despite lots of media attention with its ‘Gatwick Gusher’ UKOG is unattractive to me. The Gatwick Gusher aka Horse Hill lead is not included in the reserves or resources classifications as it is too immature, and this is confirmed by its own RNS.

hh rns

UKOG does talk about 3.6bn barrels of OIP, however this is total oil in place and with today’s technology only a fraction will be recoverable. Taking a conservative recovery factor of 20% this gives 730m barrels, which granted if were to be included as prospective resources then it’s $ per Boe would be below that of Genel Energy, which I believe is a value stock. It is not clear to me when UK Oil and Gas will be able to firm up this lead to prospective resources and have a CPR on the figures though so I am very cautious.

Ultimately, for me I would not be considering an investment here until I see a clear timeline towards a booking resources or reserves on Horse Hill. To me one major bottleneck will be building the onshore facilities needed to extract the oil, this discovery with where it is located I cannot see extensive facilities gaining planning permission, at least without a lengthy process. Just look at how close we are at getting a third runway in the south east, extracting 700m barrels of oil in Sussex will be equally as protracted in my opinion.

Sound Energy
I have not included this company on the chart above as it is so far off the chart, its current resources are priced in at $586 per Boe! However, none of its recent discovery in Morocco is included in prospective resources or contingent resources, again I would be looking to understand when work can be done to move this discovery into these categories before jumping in here. Watch closely but not a BUY in my opinion.

Summary

You should never only look at Enterprise Value vs Reserves & Resources when making investing decisions but this screening method can identify over and undervalued companies, as long as you are prepared to understand what additional factors which may be behind valuations.

Disclaimer – I have a position equal to 2% of my net assets in Genel Energy. I have no further positions in any of the other stocks mentioned and to my knowledge nor do any close family, friends nor associates.

This post is purely my opinion and should not be taken as financial advice. I welcome any alternative comments and will consider adjusting posts based on information made available to me.

Why I believe Gulf Keystone is 50% overvalued at 5p a share

Disclaimer: Shareinvestors is not authorised by the Financial Conduct Authority to give investment advice. Terms such as ‘Buy’, ‘Sell’ and ‘Hold’ are not recommendations to buy, sell or hold securities, these statements and other statements made by the author have the meaning only to express the author’s personal views on the quality of a security. Independent financial advice from an authorised investment professional should always be sought before making investments. CAPITAL AT RISK. Full Disclaimer here.


The recent restructuring announcement is close to giving Gulf Keystone a potential fresh start without being saddled by a debt mountain. Once the darling of the AIM market with shares trading at around 400p at their peak, today though they sit at 5p. Is this though still too high? Also what does the recent DNO offer imply?

This share is heavily dominated by private investors and the complexity of debt for equity swaps and the effect on the investment is not straight forward. The full terms can be found at gkp restructure.

I’ve included some calculations below, allow me to talk through them.

GKP DE Calcs

Part a) simply show the expected number of shares to each party post the restructuring. This information is calculated based on the GKP restructuring RNS.

Part b) shows the enterprise value based on current share price.  I have calculated an effective price to retain the same enterprise value as 2.05p. So assuming no change in the Macro environment or any company specific news we can expect the price to fall to 2.05p all other things being equal on the date of the restructuring.

Part c) goes on to calculate the effective cost of 1 share assuming you buy at today’s price in the open market and fully exercise your open offer rights. This gives you an underlying cost of one share of 2.15p, this is below the expected enterprise value 2.05p so theoretically by buying today you are taking a punt on improved oil price etc.

Part d) this is the most interesting calculation. The noteholders can keep selling their shares all the way down to 0.86p and still be in the money, i.e. fully recover the debt that has been converted to equity. If the noteholders can sell a tranche of shares above 0.86p, they may well settle for selling tranches below 0.86p.

How low will this share go?

The above is purely theoretical but does set the context. Bondholders are unlikely to want to hold equity investments for very long, you can imagine they are already working behind the scenes to look for buyers. These shares won’t hit the open market, they will be negotiated with a series of equity investing institutions or perhaps more likely a rival oil company, as mentioned above I see DNO have already made an approach.

Here is the important part, all that has to be offered is to the noteholders is an offer > 0.86p and the buyer can obtain 65% of the company. Under UK Takeover law they need 75% of shareholder support to force through a takeover, so only another 10% is needed….enter the convertible bonds owners with 20% of the company. Their breakeven point is 5.75p a share, however these bonds have been trading as low as $13, i.e. a 13% return on initial investment, this represents 0.74p a share. If they were offered 1p and it could well be enough to get these guys to sell too…The DNO offer on 29th July offered just that, in fact a little over 1p.

The verdict

Those buying in the secondary market today are risking a potential 50% loss. The only thing which would justify this risk is if a rival bidder came in. This to me is highly unlikely, Kurdistan is not a place where I can see new entrants to the market, which leaves Genel as the only other possible bidder. This company if anything is probably looking to decrease its exposure to Kurdistan, even if it had  $300m+ to spend on assets (it doesn’t) then I imagine this will not be spent on increasing its Kurdish exposure.

My belief therefore is the DNO offer will be accepted after the restructure. This sadly means the dreams of riches from the Gulf Keystone private investor base will be extinguished forever. RIP.

SELL – Target 1.5p

Disclaimer – I have no positions in this stock and to my knowledge nor do any close family, friends nor associates. This post is purely my opinion and should not be taken as financial advice. I welcome any alternative comments and will consider adjusting posts based on information made available to me.