Profit From Marathon's Latest Moves In Kurdistan

| About: Marathon Oil (MRO)

Baghdad feels the most insecure when oil companies decide to forge ahead with their plans to explore and drill in Kurdistan, Iraq's autonomous region. Kurdistan lies in the northern part of Iraq and is ruled by the Kurdistan Regional Government (KRG), whose relationship with Baghdad is rather sour. Iraq has warned foreign companies several times that the contracts they choose to sign with KRG will be deemed invalid and that they would not be responsible for the consequences.

But, most oil companies do not take Iraqi threats seriously and go ahead with their plans to engage in oil and gas exploration in the resource rich Kurdistan. The latest company to do so is Total (NYSE:TOT) of France, which purchased a stake of 35% from Marathon (NYSE:MRO). Total will have access to 35% of stake in the Harir and Safen blocks. The designated locations lie northeast of Erbil, the largest city in Kurdistan. Marathon has been in that area for a long time and has had a very successful business there. The company revealed that it decided to sell a part of its stake because it believes such a partnership would be helpful in many ways.

The companies did not disclose how much money was paid or how it would help Marathon, which is very keen to establish itself as a major player in the region. I suspect Marathon prefers not to go it alone in Kurdistan, fearing Baghdad's repercussions. Having another foreign company sailing in the same boat, in a weaker position, will help Marathon to consolidate its own position and also use Total's influence to lobby in Baghdad. Baghdad will not have much choice but to succumb to the oil majors eventually, because it needs them to work in the south. Exxon Mobil has been working in Kurdistan for a very long time, and has also defied Iraq. Large oil corporations no longer seem to be bothered by what the Iraqi central government thinks about unlicensed deals with KRG. Companies like Marathon, Exxon and Total have access to undiscovered oil and gas fields and provide a more stable work environment for their employees.

Why would a company like Total, which previously did not have any issues with the Iraqi government, take the risk of offending them? The Iraqi government has categorically stated that Total will be blacklisted for signing the deal and will not be allowed to carry out exploration and drilling in the southern region. Exxon Mobil (NYSE:XOM) and Chevron (NYSE:CVX) have been blacklisted by the Iraqi government as well, for proceeding with KRG deals without explicit permission from Baghdad. Royal Dutch Shell (NYSE:RDS.A) is probably the only major company in the south of Iraq, where it explores and drills at Basra.

All this makes us investors wonder why companies do not seem to worry about Baghdad's threats and are willing to take risks to discover oil and gas in Kurdistan. Part of the reason lies in Kurdistan's resource rich oil fields and partly due to Kurdish culture. Kurds are perceived to be far more welcoming and open to Western employees and companies. This is very important to oil companies as they recruit managers and administrative executives from the West. The local employees usually are engineers and contractors who deal with transportation, logistics and security. Kurdish people have a pro-western stance which appeals to most international companies and Marathon is no exception.

Considering how important it is to make sure that the working environment is amenable, Kurdistan seems to be the most attractive destination in this part of the Middle East. Moreover, the KRG is as pro-west as a government can get, and they have willingly allowed western governments to pay lesser taxes and have offered holiday periods with regard to revenue earned. These cultural, economic and security related advantages make Kurdistan far more appealing than the violent south, where various Sunni and Shia militias fight each other.

If we look at Marathon's numbers, they indicate a certain level of stagnancy. The company has a total cash of $655 million and a ratio of 0.74. It also has worrying level of debt at $4.76 billion. However, 98% of its shares are kept in retail float, which helps the company to increase its liquidity. A 5-year average cash flow of 7.67 and a profit margin of 15.95% make the company promising. Marathon's operating cash flow of $3.86 billion and a profit margin of 11.8% are not bad either. The company has a quarterly revenue growth of 1.4% and a quarterly earnings growth of -60%. This is where people may feel it is not a wise investment to make, but considering how cheap it is at the moment, it seems to be a wise decision to make. Marathon remains one of the cheaper and more stable oil and natural gas stocks to purchase. The very fact that it has roped in Total will make its business in Kurdistan more credible. This is one reason why I would feel safe buying Marathon stock.

As far as the threats made by Iraqi government go, I would not be too worried about them. I believe Iraqis have no option but to accept the reality in Kurdistan. KRG will not bow down to Baghdad, nor will it stop enticing foreign investment. Foreign companies will not stop investing in Kurdistan, because the region is friendlier and more amenable to run businesses. Of course, it is also blessed with oil and gas wealth, probably more than Iraq's south. Marathon can thus be a great choice if one is looking for an oil and gas investment. If you already have a position in Marathon, there might be dips in the short-term. In the long-term, I believe Marathon has a bright future.

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

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