Sunday, January 24, 2016

I am back in Cub Energy (KUB.V)

Cub Energy was my stock of the year a couple of years ago. The company is a gas producer in Ukraine. At the time that I bought it the company was seeing higher volumes from its drilling program. The increased production was in the context of a very high gas price of around $11.00 a million cubic feet. That compares with around $2.00 per mcf that companies in the US receive for gas.

Everything looked good and then Ukraine had the maiden revolution and Russia ended up taking over Crimea. This scared a lot of money out of Ukraine and Cub Energy suffered as well. To further compound issues Russian speaking separatists in Eastern Ukraine declared their independence which led to a state of warfare.

This had a two part effect as half of Cub Energy's properties are in eastern Ukraine but not in the actual conflict zone. In addition, the government of Ukraine, in a stupid attempt to raise revenue for the war, increased oil and gas royalties to 55%. This basically choked off any further investment by any oil and gas explorers in Ukraine. Cub reacted by securing all exploration efforts to conserve cash as it would uneconomical to explore with these onerous royalty rates.

The war, along with the already developing economic issues that Ukraine was experiencing basically led to a near depression in the economy and a collapse of the Ukrainian currency, the hyrvna. This forced the government in Ukraine to seek financial assistance from the IMF. As a condition of the assistance that the IMF agreed to it also forced pro-market reforms on the Ukraine government. One of these was the lowering of oil and gas royalties back to there pre-conflict rate of 29% as stated in this Cub Energy press release.

On Thursday, December 31, 2015, Ukraine President Petro Poroshenko signed a new law reversing the increase of royalties on natural gas production put into place 16 months ago on August 1, 2014. Effective January 1, 2016, royalty rates are reduced from 55% to 29% for wells drilled at depths up to five kilometers. For well depths greater than five kilometers, the royalty rate is decreased from 28% to 14%.

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CEO of Cub said: “We have waited patiently for royalty rates to decrease to allow us return to higher netbacks and redeploy capital into our Ukraine assets.”

So the original thesis comes back into play from when I first owned it. The company has properties that have identified gas reserves. The question now is will the company have the resources to restart its work programs and increase production. The other question is will the recent abatement in hostilities in the east stay that way. It appears that since Syria and ISIS have taken over the news that Ukraine has fell off the front page of the newspaper. 

In addition the economy in Ukraine sucks due to the war and the issues with Crimea along with mismanagement and corruption. The government in Kiev is feeling the pressure and needs to show progress on the economy. I think this could cut either way. The reforms could move forward albeit slowly or the government in Kiev could go full retard again and start up hostilities in the east. 

Cub has shown in the past that it can advance its projects amid all of the issues. The big obstacle of getting royalties down is now out of the way. It now remains to be seen if they can get capital deployed and get production up. 

This is an interesting speculation with the shares at three cents. The stock traded in the $.30 cent range two years ago before all this bad news hit. I think that it get back to $.15 in the next 12-18 months if things go right for them. This is a high risk high reward speculation with quite a few moving parts and is not for the faint of heart. However we have a catalyst for a re-rating of the stock upward. 


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