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Cadogan Petroleum: THE INVESTMENT CASE

Cadogan’s cash could be catalyst for near-term re-rating

Cadogan has now stemmed its losses. The next step will be a real turnaround
Cadogan’s cash could be catalyst for near-term re-rating
One of Cadogan's Ukrainian wells

Last month’s interims from Cadogan Petroleum PLC (LON:CAD) made for interesting reading. Despite a weaker oil price, the company was able to turn losses into profit, as a US$4.5 mln loss from the first half of 2015 turned into a US$2 mln profit for the six months to June 2016.

While it’s true that the post Brexit GBP devaluation had a major impact on the results for the first half of the year, it’s still probably no coincidence that chief executive Guido Michelotti took over at the helm in the summer of 2015 himself.

He’s clearly been able to stamp his vision on a company that hasn’t always had an easy time of it in the Ukraine as sentiment has wobbled in the wake of the conflict there and the oil price has spiralled down.

Cadogan is now redefining itself – not completely, but as one that is moving on and is no longer going to allow itself to be a victim of circumstance.

“We are a much leaner organisation,” he says. “We are much more cost efficient.”

As a result of this thinking, there have been new initiatives. One of the ways Cadogan has cut costs is by employing more locals and fewer expats.  There have also been initiatives to supplement the revenues from production such as  starting up a services business.

“And,” says Michelotti, “Cadogan has also had its foray into the gas trading business which has generated interesting profits over the past two years.”

But there’s more to it than that.

“Today, Cadogan as a company remains focussed in the Ukraine,” continues Michelotti. “And I want to make it a Ukraine-rooted company, which manages a geographically diversified portfolio of assets and leverages on the potential and skills of this organisation to do so.”

For the time being though, Cadogan remains primarily supported by production from the Debeslavetska, the Cheremkivska and the Monastyretsk licenses, which at the last reported count were producing a combined average of 115 barrels of oil equivalent per day.

The Ukrainian production operations are managed conservatively, says Michelotti, and there is to be no wildcatting here, for the time being at least.

“We are safeguarding our assets to monetize the value, ” he says. “Rather than drilling new wells we try to re-enter old wells. We’ve been quite successful. And we’re trying to raise oil production further.”

That alone could be transformative for Cadogan, now that costs are under control. But Cadogan has bigger plans.

The hunt is now on for an acquisition that will dovetail with the Ukrainian assets, and fit within clear parameters set out by the company.

First, there’s the question of price. Although Michelotti would have liked to have done a deal during his first year of tenure at the helm of Cadogan, one of the principal obstacles that he’s encountered is high valuation expectations from sellers. He has no intention of overpaying, and with cash drain under control is quite prepared to wait for the right deal.

It would be a conventional project, onshore or in shallow water, and with low operating costs.

“We don’t want to take a chance,” says Michelotti.

And if the current revenues mean Cadogan can afford to wait because of support from cash flow, the company’s balance sheet strength means that it can structure deals almost to its whim.

Cadogan boasted US$48 mln in cash and cash equivalents on the balance sheet as at the end of June, and net cash of US$40.6 mln. Note first, that that sum is 10% higher than it was at the end of calendar 2015.

But note too that no major capex programmes are likely to eat it up in the short term. That money is there to support Cadogan in its deal-making efforts.

Paradoxically though, it’s also a source of some frustration within Cadogan about the efficiency of capital markets and the way perception can distort valuation. 

The current market capitalisation is just £17.4 mln or just over US$22 mln, a long way shy of the cash in the bank, never mind any valuation for the existing production and cash flow.

Not surprisingly, Michelotti’s unwilling to consider issuing new equity at the current levels, now that the share price has been beaten down by the falling oil price and negative sentiment on Ukraine – not that Cadogan’s assets are anywhere near the fighting.

Instead, Michelotti aims to set this market mismatch right over the coming weeks and months with an improved effort at communicating the Cadogan story to the market, and the potential closing of that first significant deal. The opportunity for a re-rating is clear. The real question is: how far will it go?


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