How high is up? If you want an answer to that eternal mystery keep an eye on northeastern British Columbia, where they are redefining on an almost daily basis what constitutes a red-hot resource play.
When the word “phenomenal” passes the lips of a politician, eyes tend to glaze over.
Only this time, B.C. Energy Minister Richard Neufeld has it right when he talks about the money being poured into his province, without much evidence beyond a couple of significant discoveries that the tight sands and shale gas plays of Montney and Horn River will be the bonanza that is obviously anticipated.
Two days after Royal Dutch Shell’s mind-boggling C$5.9 billion takeover offer for mid-sized producer Duvernay Oil, the B.C. government disclosed another record-breaking oil and gas lease sale, which pumped another C$610 million into the provincial treasury.
That raises the year-to-date tally to C$1.58 billion, easily eclipsing the previous 12-month high of C$1.01 billion last year, and further widening the gap on Alberta, which has raised C$638 million as it struggles to overcome the negative fallout to its royalty hikes.
Neufeld said his government was “pretty pumped … about what just took place,” as he weighed a host of new benchmarks, with the average price for a drilling license climbing above C$33,000 per hectare (more than C$8,000 above the May record), while lease parcels averaged almost C$25,000.
He said those investments have “never happened in North America that we are aware of. … Companies don’t put up that kind of money unless they plan to do something with it.”
What their intentions are won’t be known until they start to reveal their identities, but that could take even more of B.C’s monthly blind auctions as companies, in the words of Stephen Calderwood, a Raymond James analyst, “continue trying to capture land until there is no more.”
Some close to action startledFor now, even some of those closest to the action are becoming startled by the trends.
John Dielwart, the plain-spoken chief executive officer of ARC Resources, which has one of the strongest land positions in the Montney area, said he is “very, very” surprised by the rate that land prices are rising, despite the “very prospective” nature of the region and the high degree of geologic interest it has attracted.
“Now what we all have to do is stop talking about the potential, drill a bunch of wells and start talking about the reality of what we are finding,” he said.
ARC has tagged C$200 million for 2008 to delineate its Montney land position and design a new processing plant to handle 60 million cubic feet per day by 2011.
And Dielwart has estimated the trust can recover up to 70 percent from its tight formation, with hopes of booking up to 900 billion cubic feet of reserves.
But he throws in a cautionary note that although the Montney fairway is “gas charged, that doesn’t mean all lands are going to support commercial projects. There are sweet spots. We have to see how much of our lands are in those spots that can support substantial development.”
What can be extracted?Doug Ashton, a vice president with AJM Petroleum Consultants, said Montney has become the “buzzword that investors want to hear right now” as gas prices rise and advances in technology raise hopes that gas can be economically extracted from the shale formations.
“The big question is how much can be extracted,” Ashton said.
That answer also needs to be accompanied with commitments to invest in infrastructure, regardless of the B.C. government’s offer of royalty credits to help build roads and pipelines into the remote region.
Investment dealer Peters & Co. said in a recent report that there is not enough infrastructure in place to handle the potential increase in output from the Montney formation, while the evolution of the Horn River area is in an earlier stage.
If both Montney and Horn River are successfully developed, the current spare capacity of 500 million cubic feet per day on the B.C. pipeline network could quickly disappear, the firm said.
TransCanada is moving to fill the void, announcing that, depending on the results of an open season, it could file regulatory applications in the first half of 2009 to move gas from B.C. to its Alberta hub, which has 300 million to 500 million cubic feet per day of available space.
But TransCanada Vice President Stephen Clark said the pipelines from B.C. could cost more than C$100 million to carry 1 bcf to 1.5 bcf per day.
EnCana, which hopes to produce 1 bcf per day from Montney by 2011, has been in talks with TransCanada, Alliance and Spectra Energy to ensure there is “enough takeaway capacity,” said Mike Graham, president of the big independent’s Canadian Foothills division.
Cool down not expectedFor now, there is no reason to expect a cooling off in the frenzied pace of activity in B.C.
Shell has likely opened the door to an M&A spree as speculation intensifies that the Montney resources cover more than just the upper and lower zones that are the current focus of attention, indicating that companies are paying for all of the rights, as confidence grows that the technology is available to extract gas from the dense rock formations.
More than that, the supermajors are turning to tight gas in North America as a safer investment climate.
Shell already has 80 million cubic feet of tight gas production in the Rockies region of Canada and the U.S. (although it won’t provide a geographic breakdown), while ExxonMobil and BP have invested in the resource.
Shell has been motivated to start chasing unconventional oil and gas prospects in North America after militants forced it to suspend much of its oil production in Nigeria, while Russian regulators pressed it into selling a chunk of its holdings to state gas company Gazprom. ExxonMobil bailed out of Venezuela under the threat of asset expropriation.
But acquiring Duvernay was not a bargain-basement deal for Shell, which is paying C$218,000 per flowing barrel — compared with a first-half average in Western Canada of C$60,000 — for a mid-sized producer with output of 25,000 barrels of oil equivalent per day and proved plus probable reserves of 146.2 million boe.
Shell Chief Executive Officer Jeroen van der Veer said his company’s “proved track record in North American tight gas” points to the Duvernay properties — which include 450,000 net acres in B.C. and the Alberta Deep basin — becoming a “valuable part of the Shell portfolio.”
Chad Friess, an analyst with UBS Securities, estimates the Duvernay lands hold 6 tcf of gas resources, or six times its entire proven reserves.
He told the Calgary Herald that “given the relatively expensive acquisition metrics, it appears clear that Shell is paying for Duvernay’s unbooked upside.”
The deal also fueled speculation that Shell was the probably front-and-center among successful bidders in the July sale as well as the May auction that set what was then a single-sale record of C$441 million, given that the properties on offer in July were contiguous with Duvernay land.
EnCana, Nexen, Devon Energy, Murphy Oil, Talisman Energy and ARC Resources are also rated among the contenders.
Fewer properties for saleBecause the number of properties for sale is starting to shrink, Peters & Co. is predicting the next phase in the fast-unfolding B.C. story will be the rush to mergers and acquisitions by companies with excess cash flow.
In the aftermath of the Shell-Duvernay deal companies such as Storm Exploration, Birchcliff Energy and Crew Energy, all active in B.C., posted sharp, though short-lived gains.
But they, along with Terra Energy, Canbriam Energy, Canada Energy Partners, Grey Wolf Exploration, Seaview Energy, Results Energy and Alberta Clipper could all soon find themselves either looking for joint-venture partners to explore and develop their properties or among the endangered species of junior companies unable to finance their programs.