Chevron In Regions Of Conflict - Risk Or Reward?

Jul.18.14 | About: Chevron Corporation (CVX)

Summary

Chevron is operating in regions filled with political strife, like Iraq and Ukraine.

If the company can accelerate its operations in Ukraine, it can fill the gap left by Gazprom.

The Kurdish dilemma offers both risk and reward to Chevron.

Recently Gazprom, the Russian state-owned energy company, has shifted to a prepayment system for gas supplies, which means that Ukraine will feel pressure when its demand for gas increases in the winter. This is the right time for Chevron (NYSE:CVX) to bring its shale gas into the Ukrainian market. At the start of this year, the company announced that it would begin its operations during the third quarter. On the other hand, Royal Dutch Shell (NYSE:RDS.A) has halted its operations as its acreage is located near the center of the conflict.

Ukraine holds 42 trillion cubic feet of shale gas and is still waiting for the companies to start pumping. These developments indicate a promising future for Chevron's operations in a post-conflict Ukraine.

Iraq Crisis

The fundamentalist group ISIS has taken over the northern region of Iraq. The majority of the country's oil reserves are located in its southern region where companies like Exxon (NYSE:XOM) and BP (NYSE:BP) are operating. Chevron has no share in these oil fields and is present in the Kurdish region of Iraq, where ISIS militants do not currently pose a significant threat. Exxon and BP have pulled out most of their foreign staff as the fighting has escalated.

Chevron, on the other hand, has kept its operations online in the Kurdish region. It is claimed that this region holds 45 billion barrels of oil which the new Kurdish "government" is willing to sell at a significantly discounted price. Recently, the Kurds have taken over a few other oil-rich regions that were controlled by Iraq before the fighting started, including the city of Kirkuk, in an action termed as "unacceptable" by the Prime Minister of Iraq. The annexation of Kirkuk has increased the Kurdish reserves by nine billion barrels of crude oil.

The sale of oil by the Kurds has been stamped as illegal by the Iraqi government, which puts oil companies operating in that region in an awkward position. However, the Kurds are preparing for a referendum in a few months' time to decide their fate. It has become evident that they are not willing to be a part of Iraq and will, therefore, demand a separate state. After the referendum, Kurdish oil will be supplied to countries like Turkey, Israel, and other neighbors which will not only support the new state's economy, but also generate cash flows for Chevron.

However, there is also a possibility that Iraq will try to stop the Kurdish independence. If this happens, Chevron's license to explore and extract crude oil in the region may be cancelled. The company's future lies in the balance until the fate of the Kurds is finalized.

Sale of Non-Core Assets

Chevron has reported that its subsidiary, Chevron Global Energy, has successfully divested its 25% and 21% non-operated interest in Chad and Cameroon, respectively. The company has managed to raise $1.3 billion from this sale, which seems to be a small amount compared to its massive annual capex of almost $40 billion (for the year 2014). These assets produced an average of 18,000 barrels of crude oil per day.

The amount of capital raised will not have a great impact on Chevron's financials, but will enable the management to focus on core upstream projects for better long-term growth, like Gorgon and Wheatstone. According to APPEA, the global demand for LNG will reach 470 million tonnes in 2030, which indicates that it might be beneficial for Chevron to keep its focus on gas and LNG production and marginally divert from conventional crude oil.

Confusion About Gorgon Gas Field

Chevron announced recently that its Gorgon gas project was almost 80% complete. The total cost of this project, which will have the capacity to produce 15.6 million metric tonnes of LNG per year, has increased to a massive $54 billion. Oil giants Exxon and Shell each hold a 25% stake in this project, and Chevron holds the operating interest with a 47% stake. Chevron had announced that Gorgon will be operational in 2015, but Shell's recent claim that the project will be ready in 2016 has confused many observers.

The project has already faced so many delays that its cost has increased from an initial $37 billion to $54 billion. The completion date difference indicates that the companies are not on the same page or maybe the date has been revised, and Chevron is just reluctant to make it public. Although this project is a good future growth factor for Chevron and its partners, delays can compromise the long-term growth rate, and increasing costs can even make such mega projects a burden on the company's financials. The project was supposed to start in mid-2014, which was pushed to beginning of 2015 and then to mid-2015 by Chevron. If Shell's announcement is a revised date then, this project will be finished in 2016. These continual date revisions can create doubts about the project as a whole.

Bottom Line

Chevron is operating in two high-risk regions, Ukraine and Iraq. Both these conflicts simultaneously offer a threat and a reward. Chevron can use regional conditions to generate cash flows by dealing with the Kurds and providing gas to Ukraine. If it pushes to bring the fields into operation on time, the entire political strife can play to Chevron's advantage.

That said, concerns remain regarding the final start date of the Gorgon gas project, which has already faced delays. Any further delays in this project will negatively impact the long-term growth of Chevron. However, I believe that the company will focus on these concerns and will post good returns in the long term.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.