Kuwait Energy: Could Stretched Finances Force Firm From Key Iraq Asset?

Iraq has been the great success story for private sector firm Kuwait Energy (KEC) in recent years as it has offset slumping Egyptian output. Yet finding itself overleveraged and lacking liquidity, the Mena-focused independent is contemplating selling up and walking away from its key Iraqi asset. Such a move would enable it to pay off its debt but at the expense of some 40% of its current net output, and potentially a much higher share in future.

KEC has hired financial services firm Perella Weinberg Partners to advise it on options “that could include selling all or part of its Block 9 asset in Southern Iraq,” Reuters reported earlier this week.

The firm has already reduced its holdings in Block 9 from 70% in 2015 to its current 45% position (pending government approval), but appears to have got little back in return. The first move was a sale of 10% to Egyptian state firm EGPC for just $35mn in September 2015, a bargain-basement price seemingly aimed at boosting relations to facilitate payment of Egyptian receivables (MEES, 2 October 2015). But though KEC was quick to link the deal to a fall in its Egypt receivables to $30mn at end-2015 the ‘wasta’ gains appear to have been short-lived: receivables rose to $58mn at end-2016 and $69mn (of which $40mn overdue) at end-2017, a period during which other firms’ receivables fell (MEES, 23 March).

In February, KEC farmed out a further 15% to pre-existing partner Dragon Oil and received $100mn, although the Iraqi government has yet to approve the deal. In theory the $100mn payment was for a 8.57% stake, with the remaining 6.43% nominally assigned gratis “in settlement of a dispute with Dragon Oil in relation to non-controlling interest in the Block.” KEC will remain as operator with 45%, Dragon will have 45%, and EGPC 10%. Dragon is 100% owned by Dubai state firm Emirates National Oil Company (ENOC). Kuwait Energy, despite its name, is registered in Jersey and headquartered in Bahrain – though several key shareholders are Kuwaiti, as is (recently departed) founder Sara Akbar.

The $100mn paid by Dragon for an 8.57% stake equates to roughly triple the valuation of the previous EGPC-sale. There are several possible explanations for the divergent valuations: that EGPC was offered a cut-price deal for ‘relationship’ purposes; that the Dragon Oil payment reflected the full 15% it was acquiring and also, more straightforwardly, that both the field’s reserves estimate and oil prices rose substantially between the two deals. 2P reserves are now 1.134bn barrels, up 56% from the 725mn barrel estimate at the time of the EGPC sale. Prices for key Iraqi grade Basrah Light, meanwhile rose by 43% from $43/B to $62/B over the same period.

The sale to Dragon suggests that KEC’s remaining 45% is worth a further $525mn. By comparison, KEC’s debt obligations amounted to $360mn as of end-March, of which $50mn is being converted to equity for Qatar First Bank, leaving debt of $310mn (and KEC’s current shareholders with diluted holdings – see chart). The bulk of this is $250mn in bonds which mature in the second half of 2019.

Selling Block 9 would enable KEC to pay this off and still have more than $150mn in the bank - based on the value of the Dragon transaction.

KEC’s liquidity problems haven’t been helped by sizeable receivables owed from operations in Egypt and Iraq. These soared from $77mn at end-2016 to $125mn at end-2017; alongside the $69mn from Egypt lay $46mn from Iraq. KEC’s 2017 report released in April says $46mn trade receivables were settled from Iraq since December (MEES, 11 May). This came in the form of an 800,000-barrel crude cargo received at the port of Basra in January. But since then, receivables will have again been accruing.

Kuwait Energy Iraq Assets

FIND OF THE DECADE

Selling part or all of Block 9, which accounts for 63% of the firm’s total 2P reserves, is certainly not KEC’s ideal solution to ending the liquidity crisis. The block’s Faihaa field, which is the southern extension of Iran’s 112,000 b/d Yadavaran, was hailed on its 2014 discovery as “the largest discovery in Iraq in the last 10 years” (MEES, 12 September 2014), although this could be pushed by Lukoil’s Eridu field discovered last year in Block 10. Lukoil targets 290,000 b/d from the field by the mid-2020s (MEES, 2 March). This week Rosneft announced the Salman discovery at Block 12 in Iraq’s under-explored Western Desert (see map and MEES, 25 May).

Faihaa currently produces around 20,000 b/d, with KEC’s share netting it around 10,000 b/d. The Faihaa-5 well is due online by mid-year and could add a further 5,000 b/d gross, and drilling of Faihaa-6 started in April. KEC targets 100,000 b/d by 2023, soaring to 250,000 b/d in 2026. The field’s maximum $6.20/B remuneration fee is considerably higher than the $1-2/B service fees received by other IOCs operating at the Basra fields.

KEC has received $120mn in total payments since 2016 from Iraq and the field isn’t yet anywhere near plateau production, and as such it’s not hard to imagine the firm finding strong interest in a farm-out.

But while selling out of Block 9 would right the ship economically, it would also blow a hole in its portfolio. Iraq accounts for almost 40% of its net output and despite Egyptian growth in Q1 and KEC’s reduced Block 9 stake, it’s unlikely to be long before it accounts for more than 50% (see chart). Take away Block 9 and KEC’s net output will struggle to breach 15,000 b/d.

Its 4,500 b/d share of production from Yemen’s Block 5 (KEC operator 15%,Kufpec 20%, Total 15%, ExxonMobil 15%, Newco 15%, Yicom 15%) dried up completely when force majeure was declared in 2015 (MEES, 25 September 2015). The firm also nets 2,400 b/d from its 15% stake in Oman’s Karim Small Fields, operated by Indonesia’s Medco.

SIBA GAS BOOST

Until recently Block 9 was KEC’s only producing Iraq asset. But it was last month joined by 25mn cfd of initial output at the 1.1tcf Siba gas field located south east of Block 9.

KEC says it expects “commercial” output from federal Iraq’s first producing non-associated gas field to begin in Q3, ramping up to full 100mn cfd plateau output from June 2019. Contractual remuneration is at $2.25-7.50 per barrel of oil equivalent. Iraq Oil Report says the field’s dry gas will be fed into the national grid at Khor al-Zubair, while the condensate will be mixed with crude at Fao to improve crude quality for export. The price equates to around $0.4-1.3 per ‘000 ft³ of gas or per mn btu.

KEC operates Siba with 30%, Turkish Petroleum Corporation (TPAO) has 30%, Iraqi state Missan Oil Company 25%, and EGPC 15%. KEC sold EGPC its 15% share in May 2017, after the sale of the 10% stake in Block 9 as part of a “strategic partnership.” But with Egyptian receivables stubbornly high, KEC seems to be getting little out of this partnership.

While the Siba start-up is a positive development for gas-strapped Iraq, the project has been beset by repeated delays. Start-up was initially planned for 2015 (MEES, 17 July 2015). But that is nothing in comparison to the problems facing development of KEC’s third Iraq project – Mansuriya, where KEC has a 22.5% stake in the TPAO-operated field.

Located in Diyala province, KEC took a $34mn impairment on the field last year as the field’s 3.5-4.5tcf of proved and probable (2P) reserves were relegated to contingent (2C) resources. KEC’s net stake is 390bn ft³.

KEC says no development has been possible since mid-2014 due to the risk posed by the Islamic State and says it wants to amend “the terms of [the] existing contract to compensate for delays due to the security situation. The Iraqi government has so far refused to entertain any request for change in terms.”

These security concerns underline the potential roadblocks to development at the nearby Khashm al-Ahmar/Injana and the Gilabat/Qamar assets which were awarded to the UAE’s Crescent Petroleum in April’s licensing round (MEES, 27 April).

PERMANENT REVOLUTION

The potential sale of Block 9 is the latest in a long list of attempted radical changes with the aim of placing the company on a sounder footing. In January, KEC confirmed talks to merge with London-listed SOCO international, whose main assets are in Vietnam and Angola (MEES, 12 January). The move looked promising, especially because it would broaden the firms’ portfolio whilst enabling KEC to gain access to a much-coveted public listing, but on 5 March it announced “the parties could not reach agreement” on the transaction terms.

KEC had been officially angling for a public listing since May 2017. Such a move would boost liquidity of its stock and potentially help raise finances. However, by June the Bahrain-headquartered firm confirmed it was unsuccessful.

INTERNAL SHAKE-UP

In December, long-time CEO and founder Sara Akbar left the company. She accepted a position as non-executive director at London-based services firm Petrofac the same month. Executive Chairman Mansour Aboukhamseen informed stakeholders that Ms Akbar and longtime executive Roger Phillips were departing along with four directors on the board—all of whom were promptly replaced. Dr Abdul Badwi stepped in as interim CEO.

Whilst no justification was given for these “significant” changes, the emphasis on “liquidity for shareholders” indicates a change of direction and dissatisfaction amongst shareholders. The new CEO was quick to point out during its Q1 operations update that the new board represents 45% of KEC’s shareholders.