Karoon’s Potential About To Reveal Itself

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This story features KAROON ENERGY LIMITED.
For more info SHARE ANALYSIS: KAR
The company is included in ASX200, ASX300 and ALL-ORDS

– Karoon receives approval for exploration drilling in offshore WA
– Approval removes uncertainty, offers upside
– UBS suggests share price could double on successful results

By Chris Shaw

Karoon Gas ((KAR)) advised the market yesterday it has received Government environmental and planning approvals for exploration drilling in its leases in offshore Western Australia. 

As Karoon had been seeking approval for these leases since late last year, the approval removes associated uncertainty over the potential and timing of any additional exploration drilling. In Morgan Stanley's view, this uncertainty had contributed to what has been poor share price performance year-to-date.

The other drag on the share price, according to Credit Suisse, has been speculation the Talbot estate was a potential seller of its 12% holding in the company. In Credit Suisse's view there are many short-term investors on the Karoon register, so a lack of positive news flow of late has weighed on the share price. 

A program of 5-8 exploration wells in the Browse Basin is set to begin in the final quarter of this year, UBS noting the main objective of the program will be to get a more accurate indication of the size of the Greater Poseidon gas resource. Currently Karoon estimates a contingent resource of 3-15TCF of gas.

The ultimate goal, notes UBS, is for Karoon to prove up sufficient gas volumes to underpin the commercial development of the Poseidon reserves. Doing this would support a future LNG development, UBS taking the view several TCF of gas would be required for a second train at the Darwin LNG project. This project could be supplied by gas from Karoon's fields.

With an exploration program to start in coming months, UBS suggests Karoon now offers the highest exposure to potential value generating drilling activity in the coming year. Credit Suisse also sees reasons to be positive on the potential of the Browse drilling program, pointing out the high level of liquids in the field will aide economic development.

Having ConocoPhillips as the operator offers some additional advantages in terms of lower costs for piping any gas in UBS's view. BA-ML ads the Conoco requirement of paying 80% of the first well costs in WA-315-P, along with Karoon's cash in hand of around $280 million, suggests Karoon has enough funds to support the drilling campaign.

UBS expects the majority of wells in the upcoming program will be located in permits WA-315-P and WA-399-P in the Greater Poseidon structure. The first well is located close to the Poseidon-1 gas discovery and so is lower risk, something UBS expects will provide some immediate share price support and upside if the flow tests show relatively high rates.

Assuming the program is successful overall, UBS suggests there is the potential for a doubling or more in the Karoon share price. UBS does expect the stock will be volatile as the market reacts to individual well drilling results.

Morgan Stanley also sees valuation potential from the Browse program, as at current share price levels the broker suggests the WA gas assets of Karoon are being somewhat overlooked by the market.

Aside from the Browse Basin, Karoon continues to advance its projects in Brazil. According to UBS, it will be November or December when a new farm-in partner is announced. Drilling in the Santos Basin should then be underway by around April of next year.

The Santos Basin also offers share price upside in UBS's view, as the blocks are located within an existing oil trend and adjacent to the new Petrobas/Repsol-Sinopec Piracuca oil field discovery. This discovery contains an estimated 550 million barrels of oil.

On news of the approval for exploration, securities brokers have not changed ratings for Karoon, the FNArena database showing the stock scores a perfect five-for-five Buy ratings from brokers offering coverage. Morgan Stanley is not in the database but also rates Karoon as Overweight within an Attractive view of the Australian oil and gas sector.

The consensus share price target for Karoon according to the database stands at $9.68, led by UBS with a price target of $11.33. Morgan Stanley has a target for Karoon of $10.20. 

Shares in Karoon today are slightly weaker and as at 11.45am the stock was down 13c at $5.49. Over the past year the stock has traded in a range of $4.80 to $11.00.

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