JKX Oil & Gas updates on 8M16 output, reserves, development plans

JKX Oil & Gas (JKX LN), a natural gas explorer and producer with operations in Ukraine and Russia, released an operational update on Sept. 21 describing the progress in its field development plants (FDPs) and output results. The company reported a 17.5% yoy increase in hydrocarbons output in 8M16 to 10,271 boepd, consisting of a 37.9% yoy jump in Russia and nearly flat yoy output in Ukraine. This result is 1.2% less than in 6M16, pointing that output declined yoy in July and August.

The company’s revenue in USD terms was 19.5% less yoy in 8M16, which is slightly better than -19.9% yoy in 6M16. JKX also reported on tangible progress in cost-cutting as it cut staff in its U.K. office and moved all the remaining staff to one office floor, compared to four floors occupied earlier. It also reduced its staff in Ukraine by 29% and is planning to implement a 20% reduction in Russia.

JKX also made a new reserves assessment in Russia, which resulted in a 29% YTD increase of its 2P reserves to 85.5 mln boe as of end-1H16.

Its Rudenkivske field in Ukraine could produce 600 bcf of natural gas (about 100 mln boe), according to its analysis of a possible project, which it described as “technically challenging.” The deposits there are similar in profile to some North American deposits that “have recently been successfully developed using advanced well construction and field development design,” the update said. The company claims its can produce about 18,300 boepd in natural gas from the field over a decade, which will require USD 660 mln in investments for the period. The Rudenkivske deposit is the biggest JKX asset in Ukraine, in terms of 2P reserves (69% of all of JKX’s Ukraine 2P reserves), while it has little proven reserves.

Updating on its court battles, the company reported that the international hearing of its claim against the Ukrainian government to compensate the overpayment of USD 180 mln in taxes took place in July. JKX expects a resolution by an international arbitration court by the end of 2016. Regarding Ukraine’s claim against JKX for the payment of USD 10.5 mln in taxes (JKX lost that hearing in Ukraine’s High Economic Court), the company stated it filed an appeal to Ukraine’s Supreme Court, which we estimate will have a low chance for success. Ukraine’s other tax claims, amounting to USD 23 mln, will be heard after the results of international arbitration.

Alexander Paraschiy: The most critical for JKX’s future will be the result of the international arbitration. A ruling in JKX’s favor will inflate the company’s value. JKX’s update on Russian reserves adds little value to the company, as the producer’s profit margin in Russia is close to zero. The new reserves appraisal of its Russian assets adds some chance that JKX will sell all its Russian business, which will create value for the company, we beleive. The announced parameters of the Rudenkivske field look too good to be true, and do not look affordable for the company with its high leverage and ability to generate currently no more than USD 20 mln in operating cash flow p.a.

We also highlight that JKX’s risks remain huge, particularly the need to resolve its debt issue, which will involve finding resources to repay USD 27.6 mln in debt and interest in February 2017. Also, most likely, it won’t be able to avoid paying USD 10.5 mln in overdue taxes.

In summary, the company has a huge, but very uncertain, value growth potential, which will depend on the international arbitration ruling, the possible sale of its Russian assets, and finding large financing for Rudenkivske. Its downside risks are also large. We will closely monitor the company’s updates to assess whether its upside potentials can outweigh its risks.