It doesn’t look good for EnQuest (LSE: ENQ) and Gulf Keystone Petroleum (LSE: GKP) right now, although the former is better placed to cope with lower oil prices, in my view. Both companies, however, remain very risky equity investments right now, regardless of whether oil prices rise or fall in the next few weeks. Here’s why.
Shaikan Block
“Gulf Keystone Petroleum (…) today provides an update on the company’s operations at Shaikan, its key producing asset,” the group’s statement began on Friday, when Gulf Keystone stated that it “remains in a dialogue” with the Kurdistan Regional Government’s Ministry of Natural Resources in order to receive “outstanding payments” and “establish a stable payment cycle for export crude oil sales” in future.
Gulf Keystone has suspended more profitable oil exports from its assets in Kurdistan, while crude oil supply will be diverted to the local market, essentially driving Gulf Keystone’s margins down. The oil producer is not being paid by authorities for exported oil, and that’s a big problem because less than two months ago — in a move partly aimed at offsetting falling oil prices — it had nearly doubled production at Shaikan to 40,000 barrels of oil equivalent per day (boepd). Gulf Keystone is burning cash at a faster pace, as its more lucrative crude delivered by truck won’t generate the projected level of sales.
Capital
So, revenues will unlikely fully cover Gulf Keystone’s cost base. As such, the company must hope that the situation in Kurdistan swiftly changes, or oil prices skyrocket, or both. Still, higher oil prices won’t make a big difference to the investment case, I reckon.
In fact, Gulf Keystone’s business model doesn’t allow for much financial flexibility, and it looks very likely that it will have to raise very expensive debt capital or equity capital in the region of $150m-$200m, according to my estimates. Its partner, Hungary’s MOL, could provide the funding or engineer a takeover, of course, but it’s too early to bank on that.
The good news perhaps is that oil and gas banker Sami Zouari was recently appointed as CFO. Mr Zouari’s previous employer, BNP Paribas, is one of main lenders in the sector in EMEA, so prompt access to short-term bridge financing shouldn’t not be ruled out, although Gulf Keystone’s CEO, John Gerstenlauer, said that a number of “longer term financing options” were “being progressed” by the board.
Personally, I doubt long-term financing options are available, though.
Friendly Lenders
Just like Gulf Keystone, EnQuest stock has been hammered in the last 12 months. Is this an opportunity, though?
The oil and gas producer announced last month that, given changes in the oil price environment, its lenders had agreed to raise the net debt/Ebitda covenant to 5x on its core credit line and to reduce the ratio of financial charges to Ebitda to 3x — both until mid-2017. EnQuest announced last week to have exited a small investment in Tunisia, and is expected to report Ebitda of more than half a billion dollars on revenue of about $1bn in 2014.
With a net debt position of approximately $1bn, I don’t believe EnQuest is in dire straits, and see 2015 as a key year for the company: production is expected to rise to up to 36,000 boepd from roughly 28,000 boepd in 2014 at its Alma/Galia and Kraken developments in the North Sea.