DNO recently shed light on its production outlook in Kurdistan in 2020. After the company lifted its previous guidance and cut spending with the onset of the coronavirus pandemic and the oil price meltdown, production was set to decline in the Tawke and Peshkabir fields. However, in the absence of the formal management guidance from either DNO, the operator of the fields, or Genel, which holds 25% working interest (WI), there was a lot of room left for different estimates. DNO now expects its WI production to decline by 16% yoy to 88,000boepd in 2020, driven by lower volumes in Kurdistan, which will also affect Genel.
Although we assumed less aggressive cuts in Kurdistan, the new production guidance does not change our fundamental views on Genel and DNO, as payment delays are now more of an issue in Kurdistan then falling production. Both companies have significant liquidity reserve to live through the period of lower oil prices, which has already affected the KRG’s ability to pay. Neither DNO nor any other producer operating in the region has confirmed (as expected) receipt of payments for oil exported in April. It may suggest that the payments have once again been delayed despite the KRG's recently revised schedule. We downgrade DNONO 23s, DNONO 24s and GENLLN 22s to Hold even after a convincing rally in April-May as further fundamental drivers are needed to justify higher prices.
- Downgrade DNONO to Hold. In 2020, DNO expects its average WI production to decrease by 16% yoy to 88,000boepd. The decline will come mostly from Kurdistan where gross production at Tawke and Peshkabir is expected to average 100,000boepd, down 19% yoy with an exit rate of 85,000boepd. Management believes that once normal drilling restarts, the company will be able to ramp up production quickly. Although the recent guidance surprised us on the downside, coming c9% below our expectations, it does not affect DNO's fundamental credit outlook for 2020. In our view, the key issue for DNO in Kurdistan is irregular payments for oil. Until this is resolved, which will require oil prices to increase further, the company is likely to keep capex at the lowest possible level and see its production decline. According to our estimates, DNO is well funded for the next 12+ months even if it receives no payments from the KRG. DNONO 23s and 24s have rallied 11-14pts since we assigned Buy recommendations on the bonds. Although, our fundamental view on the company remains positive, we downgrade DNONO 23s and 24s to Hold. We believe new credit drivers such as normalisation of payments or a further increase in oil prices is needed to justify higher bond prices.
- Downgrade GENLLN to Hold. Genel is also affected by DNO’s announcement as most of its production comes from the 25% working interest in Tawke and Peshkabir. The key credit driver supporting its bond valuations is cUS$400mn cash reserves, which fully cover the US$300mn in outstanding bonds and ensure that the company will not run into liquidity problems in the foreseeable future. We estimate that with its significant cash reserves, Genel could cover costs for 2-3 years making it the least sensitive to the KRG’s payment discipline among its peer group. The change in production guidance by DNO suggests that Genel’s working interest production could reduce by at least 16% yoy to 30,000-31,000boepd in 2020. But as is the case with DNO, production is likely to increase quickly once drilling restarts. Since we upgraded GENLLN to Buy at the end of March, the bonds have rallied c16ppts and are indicated at a mid-price of c95, according to Bloomberg. Although today’s announcement does not change our fundamental view on Genel, we downgrade GENLLN 22s to Hold on the back of the excellent performance albeit in the absence of new credit drivers to justify the higher prices.