Tullow keeps its eye on the prize despite setbacks

Will the wildcatter’s run of drilling disappointments weaken its balance sheet in the future?

Between 2009 and 2012, Tullow had drilling successes in Africa, opening up new basins in Uganda (above), Ghana and Kenya

Between 2009 and 2012, Tullow had drilling successes in Africa, opening up new basins in Uganda (above), Ghana and Kenya

 

Another week, another dry well for Tullow Oil, which on Monday announced it is abandoning its Lupus-1 prospect off the coast of Norway. For two years, the company has had rotten luck with the drill bit, encountering a succession of duds stretching from the north Atlantic across to Africa.

There was a time, mainly between 2009 and 2012, when Tullow appeared to be striking oil for fun in its preferred playground of Africa, opening up vast new basins in Uganda, Ghana and Kenya. Fun rarely lasts for long, however, and the company’s share price has since halved.

Tullow is preparing to next week unveil interim revenues of about $1.3 billion (€965 million) and gross profits of $650 million. With a financial performance like that, does its recent run of poor drilling results actually matter?

Not really, says George Cazenove, Tullow’s director of corporate affairs. The company says it is confident it has found enough oil to produce sufficient cash to fund its wildcatting activities for years to come.

Discoveries

“The big developments that will see production increase over the next three to five years all come from oil that Tullow discovered itself in Uganda, Ghana and Kenya. The best oil to monetise is oil that you have found yourself,” says Cazenove.

The company met investors and analysts in London last month for its annual capital markets day. It laid out its strategy for the next few years and addressed head-on questions over whether its recent exploration travails will weaken it in the future.

Put simply: production at its west African cluster of production wells, where the linchpin is Ghana, will pay the bills as it trawls the east of the continent for new basins, with a heavy focus on Ethiopia and Kenya.

David Lawrie, who runs Tullow’s north and west African operations, told investors that its operations “have the potential to generate $2.5 billion of operating cash flow”. That’s enough to pay for its entire 2014 capital programme.

The sheer magnitude of the success Tullow encountered during its purple patch from 2009 meant a later “dry” run was almost inevitable, according to analysts.

“Just because it was extraordinarily successful a few years ago, it doesn’t mean it is extraordinarily unsuccessful now because it isn’t striking oil at the same rate,”says Job Langbroek of Davy. “It has just reverted to average.”

Gerry Hennigan of Goodbody says its hit rate was so strong at that time because Tullow was almost exclusively focused on areas where it had already had success.

“It became an appraisal and development story. Tullow then started to drill in other areas – South America, along the west African transform margin, etc – where the chances of success were not as strong,” he says.

Mixed results

Ethiopia and Kenya are among the company’s biggest exploration plays. It has had mixed results there so far – success in Kenya but disappointment in its neighbour. But according to Cazenove, Tullow is only just getting going in the region.

“Over the next 18 months, we will drill wells across our acreage in Kenya and Ethiopia so that we’ll have a fuller understanding of the whole area. We’ve made a great start in Kenya but so far we’ve only drilled wells in two basins there; by the end of 2015, we’ll have drilled wells in all nine basins.”

Then there is Uganda, the real curate’s egg of Tullow’s African campaign.

The company had some stunning successes there at the outset of its purple patch, opening up a huge new basin at Lake Albert and developing a close relationship with the country’s president, Yoweri Museveni.

Since then, however, it has all gone a little queer for Tullow in Uganda.

In 2010, Tullow bought Heritage Oil’s Lake Albert assets for £1.45 billion (€1.83 billion), but was slapped with an unexpected $345 million tax bill on the transaction. It later sued Heritage for the money in London, winning the case and also an appeal, in a judgment that came through on Wednesday of this week.

More worryingly, Tullow was this month hit with a separate $407 million tax bill by the Ugandan revenue authority. Officials rejected the validity of a tax concession deal awarded to Tullow upon the 2011 sell-off of two-thirds of its Ugandan interests to Total and Chinese company Cnooc.

Appeal

Tullow is confident it will win the money back on appeal and that the rows do not mean it has blown its relationship with the government in Uganda, where the company has yet to cash in the remainder of its assets, none of which have entered production.

“We have good relationships there,” says Cazenove. “While we have disputes with the government around taxation in particular, we are able to continue having sensible commercial discussions around moving Uganda’s oil towards development.”

In the meantime, the company’s executives will continue praying for better luck with the drill bit elsewhere.

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