UK-based oil explorer Heritage Oil agreed to merge with Genel Energy International, a unit of Turkey's Cukurova Group CUKRO.UL, to create an oil producer focused on Iraqi Kurdistan worth around $5.5 billion.

Heritage's founder and chief executive, former mercenary Tony Buckingham, is betting that years of wrangling between Baghdad and Kurdish leaders over oil revenue sharing is nearly over, enabling Genel's producing fields to fund his undeveloped assets.

Heritage said on Tuesday the deal, which is currently non-binding, would be structured as a takeover of Genel by Heritage.

Heritage will pay with shares and Cukurova, controlled by one of Turkey's richest men, Mehmet Emin Karamehmet, will end up with around 50 percent of the enlarged group.

Heritage's shares, which were suspended last week after the company said it was in merger talks, were up 4.1 percent at 609-1/2 pence at 1226 GMT, valuing the company at around $2.5 billion.

The shares have tripled in value since the beginning of the year on a big oil find in Kurdistan and positive drilling results at its Ugandan fields.

Genel is worth around $3.3 billion to 3.6 billion, Heritage Chief Financial Officer Paul Atherton told reporters on a conference call, adding he expects the enlarged group to be included in the FTSE 100 index of the UK's largest listed companies .SXEP.

We consider that this acquisition can transform Heritage into being a regional player, he said.

Analysts said the deal made strategic sense.

This should be taken as good news by the market, Peter Hitchens, oil analyst at Panmure, said.

There has been a flurry of industry bid talks in recent weeks as a recovery in oil prices gives executives the confidence to snap up opportunities they baulked at when oil ended the year at $35/barrel and credit was tighter.

On Monday, Addax Petroleum (ADX.TO) said it had received a bid approach [ID:nN08300866] and last week Dubai's Emirates National Oil Company said it wanted to buy the 48 percent of Dragon Oil (DGO.L) it did not already own.

IRAQI BET

Heritage has two main assets -- stakes in oil blocks in Uganda, which it believes contain hundreds of millions of barrels of oil, and a controlling stake in the Miran block in Kurdistan.

Last month Heritage said a successful well suggested the Miran West structure on the block contained up to 4.2 billion barrels of oil, with the potential for other finds.

However, the fields will require hundreds of millions of dollars to develop, and investors have questioned whether the company will be able to finance the plans.

Atherton says the Genel tie-up solves this problem as Genel's Kurdish fields are producing and should generate $400 million in revenues next year and $600 million in 2011.

Exports of crude from Kurdistan started last week, after being blocked for years as the central government and the Kurdish Regional Government (KRG) fought over revenue sharing.

However, the oil minister in Baghdad still maintains the contracts the KRG signed with foreign governments are not legal and no mechanism has been agreed to compensate companies for the oil they put into Iraq's state-controlled export pipeline system.

Atherton said he expected an agreement to be reached soon, but until then Genel is only being paid for the few thousand barrels per day its fields sell to the local Kurdish market.

Genel's two producing fields are Taq Taq, in which its partner is Toronto-listed Addax, and the Tawke field, which is operated by Norway's DNO International (DNO.OL).

Taq Taq currently has gross production capacity of 40,000 barrels per day (bpd) and Genel is targeting 162,000 bpd by the end of 2010. Tawke is expected to reach a production rate of 50,000 bpd by year-end.

RIVAL BIDS UNLIKELY

Analysts said they do not expect the deal to be disrupted by a bid for Heritage.

Western oil majors and Chinese state oil companies have shied away from investing in Iraqi Kurdistan for fear of angering the Baghdad government and being blocked from investments in the south, where many are bidding for licences.

Also, Buckingham owns a third of Heritage's shares, and he supports the Genel tie-up, Atherton said.

Cukurova Group is one of Turkey's biggest conglomerates, with interests ranging from leading mobile phone firm Turkcell, to media, construction and financial services.

Heritage says Buckingham began his involvement in the oil industry as a diver in the North Sea and then became a concession negotiator for various companies.

Previously he was a partner with mercenary Simon Mann and others in private military contracting firm Executive Outcomes, which advised and supplied military forces in various regions across the world, according to background given in the prospectus for Heritage Oil's London share listing last year.

When Executive Outcomes was wound up, Buckingham became a principal in another military contractor, Sandline International, although the prospectus said Buckingham has had no involvement with any military or security operations since the spring of 1998.

Mann is now serving 34 years for a failed 2004 coup plot in oil-rich Equatorial Guinea.

Heritage has its roots in Angola. When Unita rebels overran one of its Angolan oilfields, Executive Outcomes retook the field, the prospectus said.

Under the proposed merger Buckingham would be the executive chairman of the combined group, to be re-named HeritaGE Oil Plc, with Mehmet Sepil, the current chief executive of Genel, to be CEO of the new group and Karamehmet to be executive director. Atherton would remain as chief financial officer.

JP Morgan Cazenove advised Heritage on the deal.

(Additional reporting by Quentin Webb in London and Darren Butler in Istanbul; Editing by Greg Mahlich and Simon Jessop)

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