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Rating Action:

Moody's assigns first time B1 rating to Canacol Energy Ltd; stable outlook

19 Apr 2018

New York, April 19, 2018 -- Moody's Investors Service (Moody's) assigned a B1 Corporate Family Rating to Canacol Energy Ltd. (Canacol) and a B1 rating to its proposed intermediate maturity, $350 million in guaranteed senior unsecured notes. Proceeds from the notes will be used to refinance the existing senior term loan and for general corporate purposes. The outlook on the ratings is stable.

This is the first time that Moody's assigns ratings to Canacol.

RATINGS RATIONALE

The B1 ratings on Canacol and its proposed notes reflect the company's small production and asset base; inherent execution risk in planned production growth; gradually increasing volume and price risk starting in 2022; and event risk related to possible acquisitions, although not currently envisioned. These credit risks are mitigated by a sharp expected decline in leverage in the next couple of years derived from higher volumes sold and EBITDA; low exposure to natural gas price fluctuations over the next six years, low-cost operating structure, and stable operating netback in the next four to five years; large acreage position; minimum foreign exchange risk, and experienced management team.

Canacol currently has access to 130 mmcf per day of pipeline capacity. Its production guidance for 2018 is 114 -- 129 mmcf per day, a volume that will increase by approximately 1.8x to 230 mmcf per day in late 2018/early 2019 after Promigas S.A. (Promigas) constructs, by the end of 2018, an 80-km pipeline that will be mostly used by Canacol. At that time, Canacol will have limited volume and price risk since about 90% of the company's natural gas sales will be secured through long-term take-or-pay contracts that have an average weighted life of six years. Currently, the company's production over the next seven years is 77% contracted and Canacol intends to increase that number in the coming year.

In December 2017, Canacol's total assets, mostly concentrated in Colombia, amounted to $696 million, its reserve base totaled 65.2 million barrels of oil equivalent of proved reserves, and its Moody's-adjusted EBITDA reached $88 million in the year, which are considered small in the universe of oil and gas Exploration & Production companies. However, Canacol's production currently comes mostly from a prolific area in Colombia, Lower Magdalena Valley basin. In addition, its proved reserve life is satisfactory at about 11 years, and management is committed to replacing reserves at an annual rate of no lower than 100%.

The company's near-term business plan is to continue growing production and reserves base through a combination of exploration, property development, and strategic acquisitions in order to become a pure gas producer in Colombia with focus on contracted sales of approximately 90% long-term take-or-pay and 10% spot price sales.

Canacol has good liquidity pro-forma for the proposed notes and debt repayment. Unrestricted cash in the amount of $39 million as of December 2017 plus $105 million in cash from operations expected in 2018, in addition to net proceeds from the new notes of $33 million and $30 million in proceeds from assets sales (not including potential proceeds from the sale of the conventional oil assets in Colombia), are more than enough to fund Canacol's capital expenditures program for 2018, interest expenses, and $27 million in taxes. Moreover, pro-forma for the new notes, debt maturity profile is comfortable since no debt will mature prior to the notes related to the proposed issuance.

The stable rating outlook reflects Moody's expectation that Canacol will be able to increase production in 2019 as planed as transportation availability increases with the expansion of the Promigas' pipeline network, scheduled for no later than the end of the first quarter of 2019. The stable outlook also assumes that management will maintain solid financial policies.

Canacol's B1 ratings could be upgraded if it manages to increase production closer to 40 mmboed and to raise its reserve size efficiently, with minimal deterioration in financial metrics. Quantitatively, an upgrade would require that its leveraged full-cycle ratio, which measures an oil company's ability to generate cash after operating, financial and reserve replacement costs, is consistently above 2.5 times for a sustained period.

Canacol's B1 ratings could be downgraded if retained cash flow (funds from operations less dividends) to total debt declines to below 30%, or if its interest coverage, as per EBITDA to interest expense, falls to below 4.5 times with limited prospects of a quick turnaround. In addition, a deterioration of the company's liquidity profile coupled with a delay of over 3 months in the construction of the new Promigas' pipeline could lead to a negative rating action.

The principal methodology used in these ratings was Independent Exploration & Production Industry published in May 2017. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

Canacol, with headquarters in Alberta, Canada, is an independent natural gas & oil exploration and production company in Colombia. The vast majority of its staff, including its CEO and other senior management personnel, are based in Bogota, Colombia. Its asset portfolio encompasses production, development, appraisal and exploration properties. Canacol has a significant resource base with exposure to four different basins in Colombia across 21 blocks or approximately 2.3 million net acres. In 2017, its total assets amounted to $696 million and its production averaged 15.7 mboe/d, out of which over 80% was natural gas. In the same year, the company had 65.2 mmboe of proved reserves (equivalent to almost 11 years of reserve life), out of which approximately 90% were natural gas. Canacol currently has 15 producing wells and 4 additional wells that are awaiting tie in. Also, the company plans to drill another three wells in the remainder of 2018.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

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