It's surreal with this price action and reports like this:
Pickering on GTE
Gran Tierra update (GTE – $6.53 – B)
· Valuation – Hard to not like a stock with 45% upside to risked NAV, potential to double with exploration success next year and trading at 2.3x EV/EBITDA in 2012 with ~15% of its market cap in cash. Downside support ~$6/sh based on 2P reserves, cash and discoveries at Moqueta. Upside before year end can be driven by 3 additional wells in the Putumayo (Rumiyaco-1, Pacayaco-2 and La Vega Este-1), one well in the M. Magdalena (Turpial), one well in the Llanos (Melero-1), one conventional and three unconventional (tight oil) prospects on Block 129/142/155 in Brazil. Unrisked these wells could increase NAV by $1.5-2.5/sh. Furthermore, we expect exploration activity to ramp in the Putumayo next year and the “elephants” of Peru (50-150mmbls) to return in 2Q12. At the current price, investors are paying very little for exploration.
· Production: Feeling good about production growth heading into 2012. We see net after royalty production rising from ~18mboepd in 2011 to ~23.2mboepd in 2012. Growth is primarily driven by our assumption that Moqueta will average ~4.5mbopd (could prove conservative depending on reservoir performance), Argentine waterflood increases to 2.5mboepd with development drilling and closure of high permeability zones (up from trough of 1.5mboepd but well below 2010 peak of 5mboepd) and Brazil achieves gross production of ~1.5mbopd (essentially development drilling plus minimal risked exploration). Perhaps more importantly, we are starting to feel better about the company’s ability to flat line production growth at Costayaco for longer. Through a combination of recompletions and the start of a waterflood on the lower producing reservoir, Costayaco can likely achieve relatively flat production through the first half of 2012.
· Moqueta (70c/sh or 7% of NAV) – Results so far continue to exceed expectation as delineation wells increase areal extent and pay thickness with no oil water contact found to date (oil leg getting thicker as the company moves down dip…M-5 had 167ft of pay vs. M-1 at 26ft). Gran Tierra has drilled 5 wells in the structure with an average pay thickness of 95ft and >1mbopd IP rates. The company is currently drilling Moqueta-6 with results expected by the end of July. The well will test another small step out (low risk) and if successful we think overall structure size is now ~15-20mmbls (would support peak production of 8-10mbopd). Moqueta 7 will spud in 1Q12 and depending on results could significantly increase recoverable resource as the step out is 1.5km to the west. In an upside scenario, we believe structural enclosure could be >2000 acres and assuming an average net pay of 95ft with 25% recovery factor could be 30-40mmbls (1.5-2x our unrisked model assumption). To date, the company has taken a relatively conservative stance to 2011 production guidance for Moqueta (500-1,000bopd) as management would like to systematically test reservoir performance under constrained choke on each well before putting forward a full field development. The reason GTE is taking this approach is unlike other fields in the region Moqueta has oil saturated with gas. The company wants to test wells under optimal choke to make sure the bubble point is not reached in the reservoir (creating production problems as gas could separate). We believe that heading into 2012 the company will look to ramp production in a material way averaging ~4.5mbopd. Currently GTE has a 6 inch pipeline tied into Costayaco from Moqueta 1-3 (capacity 20mbopd) and is building a 4 inch pipeline tying in Moqueta 4-6. This will allow for rapid production ramp up as soon as the company is ready to open the wells.
· Costayaco recompletions/waterflood flat lining production (reserves) – Recompletions and waterfloods continue to help stabilize production at GTE’s main producing asset. The company has identified a handful of additional locations for remedial work (fracing reservoirs were clay build up is impeding production). With an average cost of $0.5-1mm per job and an incremental production uplift of 25-40% per well, payback is typically achieved in a few months. Furthermore, the company still has to drill and complete additional water injectors on Costayaco. While these wells have been designed for injection, to date they have encountered producible pay. GTE intends to produces from these formations until water cut increases then use the site as a waterflood injector. The company has seen very good pressure and production response from waterfloods begun in the upper reservoir at the Costayaco field. With Costayaco-14, the company plans to start flooding the lower reservoir. This should help GTE maintain gross production at around 19mbopd for another year (current Street view is for declines to begin by year end).
· Colombia exploration ($2.39/sh or 26% of NAV) – Exploration has been slow to develop in 2011 as Colombian wells (Taruka-1,Cangucho-1 and Pacayaco-1) have disappointed. Heading into the back half of the year GTE is going to get a much needed boost to exploration new flow as Pacayaco-2 (first well drilled into a fault on poor seismic) and Rumiyaco-1 should spud in August. Each of these wells is targeting 10-15mmbls structures similar to foothills discoveries at Costayaco and Moqueta. Given success on the Chaza block, we are still bullish on the potential for Pacayaco and Rumiyaco could open a new play to the south. GTE also plans to spud its first Middle Magdalena well testing a heavy oil prospect (Turpial-1) in Q3/Q4 of this year. The prospect is high risk (15% CoS) but is targeting a stratigraphic play in between two 100mmbls heavy oil fields. The size of offset analogues and limited discussion on the asset by investors make us feel it has the most potential to surprise to the upside. Finally, the Llanos basin prospect (Melero-1) and Putumayo plains prospect La Vega Este-1 should also be completed by year end but are smaller in size (3-5mmbls) and working interest so have less effect on NAV. Unrisked this program could add ~$1.5-2/sh to our NAV.
· Brazil ready to go (66c/sh or 7% of NAV) – With final designation of block awards by the ANP received last month and a rig moving to location, the company plans to spud it first well in the Reconcavo basin of Brazil in September of this year. The market has paid little attention to these assets over the last few quarters as the company did not have designation of the blocks and production was not booked. We believe Brazil could become a much bigger story for GTE over the next year with the Reconcavo being an initial growth platform. The company is currently targeting one development (6mmbls) and one exploration prospect (TPHe 8mmbls) in 2011. The development wells could help the company reach 1.5mbopd exit rate this year from 500bopd now. Of even more interest to us is the unconventional tight oil play that GTE will be testing in the coming quarters. Within their blocks, management has identified 20-40 drillable tight oil sands enveloped within shale. These targets have 8-18% porosity and are hoped to produce 500bopd on initial production with recoverable resource of 0.5-1mmbls per well. Reservoir drive will clearly be a big risk on these wells but if successful the running room would be significant as there are few operators looking at this unconventional opportunity (ie land grab could be quick to follow). Unrisked Brazil could add $1/sh to our NAV in the near term.
· Argentina (reserves) – Following the recent acquisition of Petrolifera, the company has leveraged its exposure to Argentina oil production (a move we like). We continue to have a favorable view on price liberalization for oil in country with recent sales touching $60/bbl (our LT price assumption) and our current bias is for year end prices to reach $63-65/bbl. While we were slightly disappointed with gross production from the Puesto Morales field where GTE has taken over Petrolifera’s waterflood project (production was down to a low of 1.5mbopd on lack of investment by previous owners), volumes now appear to be heading in the right direction with production stabilizing and edging up after the company shut off higher permeability zones (reducing fingering in the reservoir). The company is looking to drill 4 development, 16 workover and 3 injection wells to modify water injection. We believe this process should help lift production on the field over time reaching our targeted production of 2.5mboepd by 2012 (could be conservative depending on reservoir response). Outside of producing assets we believe there is material exploration upside from oil and gas exploration in the Neuquén and Noroeste basins. In the Neuquén, we believe GTE could have exposure to additional conventional exploration targets in the south where they are partnered with Americas Petrogas (BOE CN – NR) and significant upside driven by the potential for tight oil in the Quintuco formation (a well recently drilled by YPF IP’d at over 4000bopd). In the Noroeste management recently signed a farm out with Apache (APA – 118.30 – A) to target Devonian gas shale and expects to spud a well in early 2012. These exploration opportunities are not included in our NAV analysis but think they will become a bigger story heading into 2012.
· Peru (98c/sh or 10% of NAV) – While our view on the geology hasn't changed (big structures in underexplored basins with solid hydrocarbon potential), the recent presidential election has put a damper on equity exposure. However, two things may be working in the company’s favor. First, as of late Humala has talked less about changes to existing natural resource contracts as he is trying to establish a presidency in the image of Lula in Brazil. Over the coming months cabinet and political appointments by the president will help clarify his true intensions. Secondly, we believe Peru is no longer being valued by investors as evident by recent equity movements. On the day of the election win by Humala, locally listed and pure play energy equities were down 10-20% while GTE was down a couple percent in-line with Colombian peers. From a drilling perspective, based on initial result at Kanatari-1 on Block 128, we believe that Block 122 will also suffer from significant migration risk and therefore both blocks will be unlikely drilled in the near term. However, we are quite positive on a number of prospects which will spud in 2012. The first is the appraisal well drilled on Block 95 in 2Q12. We estimate this prospect has a recoverable resource of 30mmbls defined by the initial discover and 60+mmbls across the structure covered on seismic. Given the previous well flowed at 800bopd of 13-18API crude its carries our highest chance of success in country at 40%. Unrisked, this prospect could add $1/sh to our NAV. The well is underneath a river system and management plans to accelerate development through barging crude if successful on appraisal. The company will also target high risk/reward prospects on Block 107 during 2012. Based on our initial mapping of structures on the block we think GTE could target prospects >100mmbls. At a 10% chance of success, this well accounts for ~25c/sh in our 3P NAV but unrisked could add $2.5/sh in upside. Finally, we believe the company will focus on spudding a well on Blocks 129/123/124 late 4Q12 where GTE is in partnership with ConocoPhillips and Talisman. Given closer proximity to know source this well has lower migration risk then Kanatari-1. We currently carry zero value in our 3P analysis for these prospects.
· Cash balance – Based on our current production targets and strip pricing on crude, we forecast GTE will spend within cash flow in 2011 (adjusting for working capital) and should generate $75mm of free cash flow in 2012. This begs to question what does management do with its cash balance (~$250mm). We think two options are likely. The first would be additional acquisitions in Colombia. With the recent market pullback, assets for sale look much more attractive. The focus of the company will likely remain in the Putumayo to maximize existing infrastructure or on frontier basins (like the Cauca) to capitalize on upside from high risk/reward assets. Secondly, we believe the company will make a bigger push into Brazil. This could either be through shallow water frontier acreage such as asset coming up in the 11th bid round or onshore unconventional and tight oil opportunities similar to prospects currently being tested in the Reconcavo basin. We also believe the company will reserve some cash in case larger prospects such as those being drilled in Peru need capital for development. |
