Member Info for PUTUP

@Straycat

Let's say next year we have $75 oil and 55k bopd production. That's $396m net to GKP if we assume an R factor of less than 1. So maybe that's a little conservative re oil price and a little optimistic re R factor. Who knows. There'd be about $312m of GKP cost recovery and $140m of GKP profit oil less $56m of GKP CBC, ie net $84m, to cover corporate overhead (note this is quite a bit less than you mention). With GKP's share of the CRP whittled down this year that would likely be more or less about the same as the balance as of the end of this year - within say $50m. If capex stalls next year because we can't reach agreement on the FDP or because returns aren't high enough to invest or whatever you ought to see just how quickly - possibly from the around the end of next year - one can get to a situation where CO is just the month's opex, limited capex plus a tiny amount of G&A. Any excess over this becomes Profit Oil and that's shared VERY differently (even without a sharp swing in the R factor).

So that key asset - CRP - is converted to cash. Good. Obviously I prefer it as cash. It's a more solid asset than a potentially recovered cost. We will have a strong balance sheet/net debt position even if a portion of that cash is returned to shareholders (which I certainly expect). But looking forward, absent highly profitable new investment, you no longer rake in $396m per annum (assuming the same op and production assumptions). The value of the company at the end of next year is its "balance sheet" (positive cash position) plus the value of this very different receipt/expenditure stream which is what all the rest of the balance sheet produces. Recall my response to Arma re the maths of a steady-state 55k bopd scenario.

Of course I made a key assumption which is that things plateau at 55k bopd. Expansion beyond 55k requires agreement regarding the FDP by management, the MNR/KRG and (key) shareholders. It needs to offer returns to shareholders commensurate with the risks. It remains to be seen whether that can be achieved. For now, I prefer not to pay much at all for expansion beyond 55k but rather see what happens and react to announcements accordingly. I doubt I'm alone in this view.

Not a lot "spooks" me. I merely think too many people have excessive and grandiose expectations as regards what the company can produce. The boiler room folk don't help (and end up being self-defeating). The risk factors are the obvious ones including without limitation an oil price which leads to demand destruction and hence a sharp correction in such price, regional geopolitical risks, risks of profitably pushing beyond 55k/reaching FDP etc.

(By 'profitably' I mean expansion with returns to equity that I expect - and that's certainly not a single digit or low teens IRR.)

"Of course, if we swing into major investment mode then your concerns about the diminishing CRP disappear for a while."

Yes, investment adds to the CRP and sets back the R factor. But the only money we make from investing today is via profit oil (obviously). Cost recovery (beyond that which was gifted to the new company from its pre-restructuring predecessor) is money spent today to be recovered only $ for $ over some time in the future. Even now profit oil is just 21% of receipts and 40% of that is paid back in the CBC*, leaving the company with a net 13% to cover corporate costs.

The 'cash cow' everyone raves about is recovering pre-restructuring expenditure, the value of all of which is in the stock price.

(* Quite where this CBC and the argument for it came from I have no idea. To me, it is a very odd construct.)

Don't get me wrong, I think there's still upside and I've not sold anything yet (except the last dividend). But obviously as more and more gets impounded in the stock price one has to be increasingly detailed in constructing a view of the future.

"I remember very well when GKP sp went below 50 p at the peak of COVID - 19 crisis. That is well BELOW the amount of CASH GKP alone had in their bank account!!! Zero value was given by the market then to oil reserves that can be recovered during the current license without any extensions!"

Yes. It was a gimmie. And why I bought it. Quite a lot of it.

What I mean is that the current enterprise value exceeds the CRP and arrears. When the valuation was below these you only had to believe in a recovery of the oil price enough to 'extract' these two to cash in the bank. Currently the valuation exceeds these by about a third. That means you are paying for them and a lot more. That's not to say it isn't worth more but that the 'gimmie' has gone. The valuation now ascribes some value to future cash generation, ie profit oil. As a result one ought to have a good understanding of how the company earns from profit oil.

Costs = capex, direct operating costs (for the Contractor, $2.4/barrel) and direct Shaikan G&A

True it takes time to move. But for all those thinking we own the reserves or applying other long-term valuation metrics it is sobering. More to the point is what's embedded in the current valuation? The more near-term variable, in my opinion, is the level of CRP. At the current price of oil this is being recovered fast and this will accelerate as production increases as capex for the lift to 55k is modest versus the extra sales. When (if) this normalises the swing to Profit Oil changes rapidly. We're still a couple of years away but the CRP is more than embedded in the current valuation. So like it or not you are paying for the scenario where the CRP is normalized and the bulk of revenue is profit oil.

The R factor(and the PSC as a whole) isn't there to encourage investment so much as to cap the upside to the contractor. (Yes the PSC must allow for enough return but the idea is that the bulk of the upside in the field accrues to the KRG.) In essence, the contractor has a 15% interest in the field once investment is recovered. Cost Oil recovers expenditures - albeit with a lag versus a 100% owned project (as a result of only being 40% of net sales rather than 100%) - and the contractor then has a declining interest in the "profit". This interest starts out at 30% of 60% (offset by the lag in recovering direct costs and investment) but then shifts in a slightly complex way as the R factor moves and eventually more oil shifts to 'Profit Oil'. Ultimately the contractor has a 15% interest in receipts after direct costs. Hence saying 'we don't own the field.' This is one BIG reason why simple reserves-based valuations aren't so useful as a guide to valuation (as if they are in any situation unless you want to get way ahead of yourself today) unless you want to multiply reserves by 0.15 and then by 0.8. Furthermore, out of 80% of this 15% interest GKP pays a further 40% Capacity Building Charge. One might say GKP ultimately has only a 0.15 x 0.8 x 0.6 =7.2% interest in the 'direct profits' of the field (from which it must pay corporate overhead costs).

Well said. But it ain't sh*t. It's all good. Just stay grounded.

Yes, the contractor recovers direct opex. They also recover field capex (and direct G&A). So costs are recovered first and then the balance is split with the KRG. But recovery of costs expended is not profit. It's in the top line - receipts - but not the "bottom line". That's why it is important to look at the monthly receipt and understand what is cost recovery and how much is profit oil. From the latter we deduct all other costs (those not recoverable via cost oil) to see what is "profit". For the month of July GKP made approx $8.9m from profit oil from which it paid $3.6m in CBC. The balance of $5.3m is what the company earned to pay all its other costs (including headquarter cash remuneration, G&A etc).

(And opex and capex were spent in the past and recovered $ for $ in the future. Alone they have a negative NPV.)

https://www.gulfkeystone.com/wp-content/uploads/2020/02/gkp-corporate-presentation-22-jan-2020-vfinal..pdf

slide 26

So in this example the company recoups its direct expenditures of $60m and makes $75m (less indirect expenditures) profit for the year.

You can tweak it for $83 Brent if you want.

Here's the rest of the maths Arma fails to present when looking at a steady state of 55k bopd and $82 oil. I omitted to include G&A costs and other expenditure that GKP can't recover via cost oil. Feel free to tweak direct G&A costs and maintenance capex etc - they don't change the answer much.

Brent 82
Discount 21.1
Sale Price 60.9
Less 10% royalty 6.09
Net Price 54.81
Average daily production 55000
Revenues $m 1,100
Operating Costs ($2.4 per barrel) 48
Direct Shaikan G&A costs 2
Capex (maintenance) 10
Cost recovery oil 60
Profit Oil 1,040
Contractor share (15%) 156
GKP share (80%) 125
less GKP CBC (40%) (50)
Net to GKP per annum 75

Just to complete the point, our share of profit oil begins to decline well before the CRP is depleted. Of course the bigger inflection is when the CRP is depleted and excess CO becomes PO and we get only 15% of PO. We recover our recent costs but make only a small sliver of profit.

EDIT: My penultimate sentence should have 40%.

60:40 is the split of cost recovery oil vs profit oil.

The contractor currently gets 30% of profit oil. This declines to 15% as the R factor moves from 1 to 2.

When there is no balance in the CRP the excess balance in CO is treated at PO.

You said: "All what is needed to be known is that it remains below 1, so that the contractors continue to receive the full 40% CO"

Your sentence confuses the two topics. The R factor is not associated with Cost Oil. It drives the split of PO and, for as long as the R factor remains below 1, the contractor gets 30% of Profit Oil. Cost Oil is 60% of sales after royalty and remains that way until there's no balance in the CRP. The contractor gets 100% of CO.

Indeed that is true. By the end of the year it will likely be very close to 1. We are on the cusp of an interesting transition. FYI the amount the contractors receive is 30% when less than 1 - not 40%. As the R factor moves between 1 and 2 the share declines from 30% to 15%.

Of more relevance is the depletion of the CRP - and valuation thereto. It is this recovery which is a key determinant of cash flow over the next 2 years and it underpins the return of capital to shareholders, whether by dividends or buybacks.

ValueS - yep I don't think you're far wrong except in so far as capex is heavily weighted to 4Q rather than YTD and hence my expectation of a higher R factor now, slowing in its rate of change through 4Q.

"if you have excess capital return it to shareholders"

This is exactly what buybacks do. It returns capital to those shareholders who want to sell while those who are bullish increase their ownership in lieu of receiving cash.

"1.65 billion dollars a year."

If only the company was able to receive production x the Brent price!!! But we know we don't sell at Brent and we know we only get a small percentage of gross field revenue. As a result, production x Brent is utterly meaningless. Even Armas knows this but loves a good ramp.

"Without a complete list of what is allowed and a full understanding of the detail, any model could get the wrong answer very quickly.

There are other minor points that might trip up the unwary, such as the way some costs are reported net to GKP but others are gross to the Contractors.

What is then needed is to find the latest official value of the Cost Pool, work out the effect of all the verified components since that date; and add in a bit on the end for the months where there has been production but no revenue."

I have a model running for the cost recovery pool. I just need to extend it to the R factor.

Yes, one needs to be very careful of the gross versus net disclosure.

I estimate the CRP to have declined between $80-90 million in the year to July (and even more to date). That's a decline of circa 20% to the year to July. I haven't bothered to extrapolate it to end Sep yet. That R factor is moving fast albeit its rate of movement will slow a little with the extra 4Q capex required to move to 55k.

As of Dec 31 the CRP was gross $548m. Net to GKP $438 m.
1H GKP net capex was $14.1m. Add a small amount for July.
78.7% of GKP net receipts (excl arrears) are cost recovery. $119m
Opex can be calculated roughly as production barrels x $2.4 x 0.8. About $18m
Add a little for Shaikan G&A x 0.8.

"Assuming an estimated average monthly addition to the cost pool = $12 m (you can change that if you disagree)
Then, Total cumulative costs = $1,439 m + 9* $12 m = *1,547 m"

Yes, this is the part that needs to be modeled more accurately. I understand cumulative costs to be the sum of gross (ie contractor and not just GKP share) capex, gross operating expenses and also gross Shaikan field G&A expense. I need to do a little more work but I suspect the answer is a little closer to 1 than your estimate. Above 1 our share of profit oil begins to decline.