Maxim Group LLC issued this report on 4/28:
Teton Petroleum Company
INVESTMENT HIGHLIGHTS
Teton represents a compelling investment opportunity for investors seeking exposure to
emerging Russian oil companies. The economic reform efforts of Russian President, Vladimir
Putin, have propelled Russia to the second largest producer of oil in the world. Under President
Putin’s leadership, the Russian economy appears to have stabilized, due to stronger regulation,
enforcement, and corporate governance. A newly proposed North Russian pipeline, the Murmansk,
is in the early stages of development, which is likely to be 100% dedicated to the United States could
with 1.75 million barrels per day, net to TPE. Further, British Petroleum’s recent $6.75 billion merger
with Russia’s Tyumen Oil Company (TNK) added material credibility to the area and country in our
opinion. BP’s investment is located ten miles south of Teton’s Siberian operations. More recently,
Marathon Oil Corporation announced its acquisition of the Khanty Mansiysk Oil Corporation
(KMOC), which represented the first instance of an American company buying another American
company operating solely in Russia. At the end of 2002, oil production was up more than 20% to 7.7
million barrels per day.
Teton maintains 35 million barrels of proven, probable, and possible oil reserves near the
seventh largest oil field (Samotlor) in the world. Gustavson Associates, a petroleum engineering
and consulting firm estimates that there were 35 million barrels of oil net to Teton at year end 2002
(19.8 million proven reserves, 13.2 million probable reserves, 2 million possible reserves) on its
Russian license. The reserve calculations are updated annually. Gustavson further estimates 39 wells
will be required to fully develop the proven reserves, which could push production to 13,770 bpd by
2005. To date, only 13 wells producing 7,000 bpd have been drilled and completed. No dry holes on
the license have been drilled to date.
The Company should experience significant financial growth in the near term. For the year
ended 2002, the Company generated $6.9 million in revenues and an operating loss of $5.1 million.
The losses were associated with the ramp-up of the Company’s drilling program. For the year ending
2003, we are projecting revenues of $14.3 million and positive cash flow. We are forecasting that oil
prices could remain in the $20-$24 level on average over the next 9 months.
Management has extensive experience and strong relationships in the Russian oil industry.
The Chairman, Howard Cooper, has been doing business in Russia for over 13 years of which 10
years have been solely dedicated to the oil sector. The CEO, Karl Arleth, spent 22 years with BP
Amoco, with extensive time spent in Russia. The Chief Operating Officer, Igor Effimoff, has
roughly 30 years experience relating to exploration and development of oil in Russia.
We believe the “Russian Oil Theme’ as it relates to Teton, represents an attractive
investment opportunity with potential upside in its stock price. We are initating coverage
with a buy rating and a 12 month target price of $8.75
Maxim Group LLC
Teton Petroleum Company 3
BACKGROUND
Teton Petroleum, through its 100% subsidiary Goltech Petroleum, has been operating in Russia for
seven years via its 25-year license.
Teton owns a 50% interest (50% before payout and 35.3% after payout) in Goloil, a Russian closed
joint stock company, formed under laws of Russia in 1996. Originally, Teton owned 70.6% of
Goloil, but sold a portion to the Mediterranean Overseas Trust (MOT). For all intensive purposes,
35% of Goloil is owned by Teton, 35% by MOT, and 30% by a Russian investment company.
Teton’s sale in Goloil to MOT provided the capital necessary to finance the first significant
development of the fields covered by its license. The deal provided $1 million in cash and a
commitment by MOT to invest $5.6 million for drilling five wells, construction of a processing
facility, and the construction of a 25-mile pipeline from the Eguryak Field (to the Trans-Siberia
pipeline, which transports crude oil to the market). The funds were invested in Goloil through
MOT’s 100% owned subsidiary Energosoyuz (EUA). EUA drilled and completed all the wells in
2001 and 2002, built the essential facilities, and constructed the pipeline in mid-2001. The wells and
facilities were leased back to Goloil for a production payment to EUA of 50% of Goloil’s domestic
production for a period of seven years (the production payment expires in June 2007), at which time
the production payment terminates and all EUA’s interests revert to Goloil.
As a result of these transactions, Teton, through its wholly-owned subsidiary, Goltech, is entitled to
50% of the production and revenues from Goloil net of the domestic production payment, 25% of
the gross Goloil production until the expiration of the production payment. Under this arrangement,
Teton exports 70% of its oil to Europe, 20% to other states of the former Soviet Union, and 10%
domestically within the Russian market.
Teton is currently re-investing its share of Goloil’s cash flow back into the Company to accelerate
field development and increase Teton’s revenue. This strategy was successful in 2002, increasing
Teton’s revenues 326%. In addition, the company is in early negotiations to purchase back 50% of
the production payment and 50% of the minority interest held by the Russian investment company.
The effect of these transactions, should the Company be able to conclude them, would be a
significant increase in revenues, cash flow, and reserves.
BP-TNK MERGER
In February 2003, BP acquired Tyumen Oil Company (TNK) for $6.5 billion. This was a strong,
ringing endorsement for future investments in Russian oil producers. TNK had originally been
planning an IPO in 2005, but will now keep the shareholder structure intact until 2007. Previously,
BP was badly burnt in its first dealings in Russia in 1997, suffering when it bought a 10% stake in
Siberian oil from Sidanco and then watching Sidanco’s majority shareholder TNK try to strip some
of the company’s choicest assets. Four years later, after a series of legal disputes, BP and TNK
resolved their differences, paving the way for February’s merger agreement. The BP-TNK merger
should create new respect and credibility for oil companies doing business in Russia.
MARATHON-KMOC SALE
In April 2003, Marathon Oil acquired privately-held KMOC, for $275 million. KMOC is a US oil
company that operates in the same region as Teton in Western Siberia. This transaction is the largest
move to date by a major American independent oil company into Russia. KMOC is currently
Maxim Group LLC
Teton Petroleum Company 4
producing 15,000 barrels of oil a day and it is estimated that they export 5,000 barrels a day to
Western Europe.
THE EGURYAK LICENSE IN THE NORTH SAMOTLOR AREA
The principal asset of Goloil is a renewable 25 year license agreement (dated May 1997) which
provides the Company the exclusive right to explore and develop three oil fields in a seventy square
mile area in the Nizhnevartovsk region of the Western Siberia. For geographic purposes, the area is
located in the southern half of the Western Siberian Basin of Russia. The largest Russian oil fields
preside there. Samotlor is considered the largest oil field in Russia and the seventh largest oil field in
the world. It has produced an estimated 13 billion barrels with an estimated 7 billion barrels
remaining to be produced. The Company’s license is restricted to 70 square miles in the Eguryak,
South-Eguryak and Golvaya oil fields, within the license area.
The license area straddles the north portion Nizhnevartovsk arch, which is a large structural feature
that has been the focus of regional oil migration into the Samotlor and associated giant oil fields.
The stratigraphic column includes more than 11,000 feet of Mesozoic and Cenozoic sedimentary
rocks. The most prospective and currently productive intervals are Lower Cretaceous sandstones at
7,000 feet and Upper Jurassic sandstones at 8,100 feet. The wells in the Eguryak field produce oil
quality that is on par with Saudi crude.
Reserves
Teton is developing three oil fields in Western Siberia with proven, probable and possible reserves
net to Teton of 35,000,000 barrels (19.8 million proven barrels, 13.2 million probable barrels and 2
million possible).
Production
Teton has come a long way since 2000. First, the Company was challenged by transportation
bottlenecks that shut down operations for several month each year before completing the pipeline in
2001. After the pipeline was completed in June 2001, oil was pumped from Teton’s wells throughout
the year, resulting in consistent operations ever since. With year round production, production
jumped 600%. Teton has produced and sold oil from the Goloil license for seven years and currently
has completed 13 operational wells. At the end of 2002, oil production was 6,800 bpd (1,700 net to
Teton). Our outlook for Teton oil production is roughly 2,000 bpd, net to Teton in 2003.
Maxim Group LLC
RUSSIAN OUTLOOK- OIL INDUSTRY
In the past three years, Russia stabilized its currency, developed a legal system, eliminated debt, and
attracted a substantial amount of foreign capital for investment. Reserves have long been known to
exist in Russia’s Western Siberian basin. Today, three pipelines deliver oil from Russia to the West
and two more are in the planning stage, one going west to Murmansk, and another going east toward
China.
In our view, Russia is a significantly more stable source of oil than the Middle East or Latin America,
yet reserves are valued at a significant discount to those found in locations such as Venezuela,
Columbia, Nigeria, Indonesia, and the Middle East. Under the guidance of Russian President Putin,
Russia has stabilized its infrastructure. It is believed Putin would like to see Russia become a major
oil exporter to the U.S., where more oil is consumed than anywhere else in the world. The U.S.
would readily accept a more stable supply. The highly anticipated Murmansk pipeline, which is
scheduled for construction in 2004, and completion in 2007, would potentially deliver 1.5 million
barrels of oil per day to the West. Russian interests have become more closely aligned with U.S. than
any other country outside of North America.
From an energy policy and foreign policy perspective, Russia represents a formidable alternative to
Middle Eastern crude oil supplies for the U.S. There are some large oil companies who, even today,
view Russia with some skepticism as an investment. They were among those who left during Russia’s
transformation. While such skepticism may have been justifiable in the past, it may not be today. We
believe the opportunities for Russian oil could only improve from here, which we have seen after the
recent merger and acquisition activity.
Foreign policy makers and investors have clearly underestimated he potential for Russia to play a
major role in lowering U.S. dependence on imports from the Middle East. As mentioned in a
September 11, 2002, Wall Street Journal article, transportation is the biggest impediment to Russian
oil filling the gap. However, the largest of Russia’s oil companies are currently evaluating
construction of a new export terminal in Northern Russia that would allow large tankers to transport
oil directly to the U.S. Most Russian oil is delivered by pipeline to Europe because Russia does not
have deep-water ports necessary for tankers, the exception being Murmansk in the north. The facility
under study would require a 930-mile pipeline, $1.5 billion in financing and five years to complete,
but would lower transportation costs and increase profitability of oil shipments to the U.S. The
project would need Western technology and capital, but it is a certainty that Russian companies, too,
would be players.
After a long period of insignificant investment and capacity underutilization, Russian oil companies,
themselves, have aggressively expanded investment and oil production. Russian upstream capital
spending reached $6.73 billion last year, up 265% from $1.84 billion in 1999, and could approach $9
billion this year.
Teton Petroleum Company 6
As for Russian oil production, it reached its peak in the mid-‘80s at 11 million barrels a day. After the
collapse of the Soviet Union, Russia’s production declined to 6.5 million bpd,, but with privatization,
production has risen to 8 million bpd. Oil and Gas Investor and other industry sources forecast overall
oil output to increase 8% for the full year 2002, and thereafter at about 8% for the foreseeable future.
Against the backdrop of a surge in capital spending, we anticipate oil prices could decline in a post
Allies-Iraqi war. A war premium of some amount was built into the pricing structure for oil. We
believe domestic (Russian) companies, as well as foreign firms like Teton, can be profitable in a
postwar environment. The price of oil has fluctuated between $40 and $23 since the Iraqi conflict
commenced and ended.
In our opinion, we estimate the average price of Brent oil could be in the $20-$24 range throughout
2003. Overall, lower production costs and greater reserves are attracting international attention to
vast oil fields in Russia.
Maxim Group LLC
Teton Petroleum Company 7
MANAGEMENT TEAM
The following management team has been navigating the direction of Teton:
H. Howard Cooper, Chairman of the Board and co-founder, has been with the Company since
1996, truly before anyone considered the potential impact of Russian oil. Prior to joining Teton,
Mr. Cooper worked for AIG (American International Group) assessing Russian oil risk. In 1992,
Mr. Cooper joined as a principle Central Asian Petroleum, and was successful in developing the
Karakudak oil field in Kazakhstan. Mr. Cooper obtained his finance degree from the University of
Colorado and a Masters Degree in International Affairs from Columbia University.
Karl F. Arleth, Chief Executive Officer, President, and Board Member. Mr. Arleth spent 21 years
with Amoco and BP Amoco. Mr. Arleth chaired the Board of the Azerbaijan International Oil
Consortium (AIOC) in 1998 for BP Amoco in Baku, Azerbaijan. Prior to becoming CEO at Teton,
he was a member of the Company’s Board of Directors.
Igor Effimoff, Chief Operating Officer, joined Teton in 2002. Prior to joining the Company, Mr.
Effimoff was President of Pennzoil Caspian Corporation where his responsibilities included
managing the Company’s interests in the Caspian Region including their stake in the AIOC. Mr.
Effimoff started his career with Shell as a geologist in 1972.
John Mahar, Chief Financial Officer, joined the Company this year. Prior to accepting the Teton
position he was a Managing Director at Gladstone Capital, LLC, a financial advisory company
serving the independent oil and gas industry. He previously worked for Schroder Capital
Management International and the Federal Reserve Bank of New York.
Thomas Conroy, , Board Member, has served in this capacity since March 2002. Mr. Conroy is a
CPA and has spent 27 years with ING in several various positions. As President of ING
Reinsurance, Mr. Conroy established their international presence by setting up facilities in The
Netherlands, Bermuda, Ireland, and Japan. Mr. Conroy obtained his MBA from the University of
Chicago.
James J. Woodcock, Board Member, is the newest member since late 2002. Mr. Woodcock is
presently the founder and Chairman of Hy-Bon Engineering Company of Midland, Texas. Hy-Bon
is an engineering firm and manufacturer of vapor recovery, gas boosters, and casing pressure
reduction systems for the oil industry. Mr. Woodcock is a current board member of Renovar
Energy and was previously Chairman of Transrepublic Resources.
Maxim Group LLC
CONCLUSION
Teton Petroleum appears to be an attractive investment opportunity for investors seeking exposure
to the “Black Gold” rush current ongoing in Russia. Teton could be a potential beneficiary of the
recent merger and acquisition activity between international entities and Russian companies seeking
exposure to generous Russian oil reserves. The recent acquisition activity and the prices being paid
on a per barrel basis would suggest to us that Teton is undervalued.
Teton Petroleum operates in, and near, the most active oil developing properties in Russia. In late
April 2003, Marathon Oil announced it would acquire Khanty Monsiysk Corporation for $275
million. The same day, OAO Yukos, Russia’s largest oil producer agreed to acquire OAO Sibneft.
These acquisitions came on the heels of British Petroleum’s February 2003 announced it would
partner with Alfa Group and Access Renova to combine their Russian oil interests into one
company. Further, sever major international firms have recently signed production agreements in
Russia, which include: Exxon Mobil (NYSE: XOM) and Royal Dutch (NYSE:RD); Total Fina Elf
(NYSE:TOT) is involved in a Siberian oil project; and Occidental Petroleum has been operating near
Teton’s base for several years, so we are anticipating another possible move by Occidental. Teton
may also be viewed as an attractive alternative since its pipeline already connects to the Trans
Siberian pipeline and that the Company possesses a 25 year license. The recent merger, acquisition,
or business development activity makes Teton Petroleum an attractive candidate.
Teton Petroleum is undervalued when compared to prices paid on a per barrel basis in Russia. When
BP bought TNK for roughly $5 billion, it purchased 2.6 billion barrels of proven oil reserves for
$2.60/bbl in the transaction, which we believe was the lowest price per barrel on any deal so far in
Russia. Therefore, if we assume the independent reports are accurate, and Teton does have 33
million barrels of proved reserves, a $2/bbl price would suggest that the Company is undervalued
based on its current market cap. As of May 5, 2003, Teton’s market cap was $26 million, while
reserves could be valued at $66 million if there was a potential transaction. In the meantime, we
believe Teton is likely to need $10 million to extract the oil, so maybe a proper value on the oil
reserves is $55 million.
Teton Petroleum should produce a record year in 2003. We believe the Company could double
revenues over 2003 and have healthy profits for what is considered a small company. Further, the
Company’s infrastructure appears to be running smoothly and the enhanced deal activity in Russia
should put the Company on the “Map”. We are initiating coverage with a Buy rating and a 12-month
price target of $8.75
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For a pdf version of the above email Howard at Teton. |
