They have led the way in cracking the codes across Western Canada, opening up such tight oil plays as the Montney, the Cardium, the Viking, the Shaunavon and the Bakken.
For decades, they have been the industry’s building blocks, going where the majors didn’t want to venture or had walked away from, figuring out ways to revive old reservoirs.
Until the last couple of years, they were in the forefront of a thriving natural gas sector until they got blinded by the shale revolution, which was partly the result of new drilling techniques they had developed.
Those same methods, deploying horizontal drilling and multistage fracturing, are now being directed at tight oil plays that have reversed the decline of conventional production.
But the junior E&P companies are facing “the toughest time I have ever seen,” Trevor Spagrud, president of Hyperion Exploration, said at an investment conference earlier in June sponsored by the Small Explorers and Producers Association of Canada.
His own company is targeting production of 2,000 barrels per day by the end of 2012 at an operating cost of C$12 per barrel, including transportation.
Challenge in raising capital
Despite those solid results, Spagrud concedes the “small guys” face a severe challenge to raise the capital need for tight plays to carry them through the next decade.
Doug Bartole, president of Vero Energy, said juniors are at the bottom of the food chain among investors who “buy upscale if they want energy in their portfolios.”
He said his company sold its gas assets early this year for C$209 million after building output to 10,000 barrels of oil equivalent per day (76 percent weighted to gas).
Having transformed itself into a tight oil player, Vero is now at 1,800 boe per day (67 percent oil and natural gas liquids) and is trying to climb back to about 3,000-3,300 boe per day by year’s end, while avoiding an increase in its gas ratio, Bartole said.
The pressure on juniors was explained by Ray Kwan, an analyst with Macquarie Capital Markets Canada, when he told financial analysts that “commodities, whether energy or materials, have had a tough ride, owing to the uncertainties in the Euro zone as well as the economic slowdown in China. The equity markets are volatile and challenging, particularly for the energy space.”
The volatility and the move to support companies with a greater weighting in oil and liquids production, has spread pain among many small- and mid-cap Canadian producers, he said.
“Those exposed to natural gas have felt the brunt,” although oil producers “haven’t been left unscathed.”
Squeeze on gas-weighted juniors
The squeeze on gas-weighted juniors after four years of shrinking commodity prices is forcing many to consider unloading assets, seek outright takeovers, or, in one case, enter bankruptcy.
Bruce Edgelow, vice president, energy group for the Alberta government owned ATB Corporate Financial Services, told the SEPAC conference that 70 percent of wells being completed in the Western Canada Sedimentary basin are oil and the remaining 30 percent “are probably doing natural gas with a liquids-rich component, primarily.”
Although there is “some reason for optimism (among gas producers), unfortunately, I think we’re going to have some tough times before we get there,” he said.
Edgelow said his shred of hope is tied to signs that U.S. gas supply is falling after peaking at 66 billion cubic feet per day, but that is offset by the limited draw down of storage gas during a mild winter.
Regardless of a slight shift in trends, producers carrying high debt levels must work with their bankers and evaluate options to survive, he said.
“They may have to sell, not necessarily the crown jewels, but a jewel that will give them enough cash to reach a price adjustment,” Edgelow said.
Exploring outright sale
Leslie Kende, managing director of acquisitions and divestitures for AltaCorp Capital, a partner with ATB, estimated 17 companies producing a total of 65,000 boe per day are exploring outright sale and 35 assets packages accounting for another 76,000 boe per day are up for bids.
About 70,000 boe per day of unannounced sales efforts are also under way, he said, adding that potential buyers and sellers are having difficulty settling on a price.
“In the current market environment there are gas producers who are definitely in survival mode and some of them won’t survive— those who are likely generating negative cash flows,” Barry Munro, leader of Ernst & Young’s Canadian oil and gas practice, told the SEPAC conference.
Enerplus is among the mid-size producers looking to divest assets after a first quarter loss of C$33.8 million, its second consecutive quarterly loss. For the quarter it produced 79,190 boe per day, including 247,000 million cubic feet per day of gas.
Gas prices will have to reach US$3.50 per million British thermal units before Enerplus will feel “comfortable,” and even then the company would still try to monetize a portion of its equity portfolio and joint ventures, said chief operating officer Ian Dundas.
In the last three months, gas-weighted Second Wave Petroleum, Bowood Energy and Anderson Energy have put themselves on the auction block, but Robert Fitzmartyn, an analyst with FirstEnergy Capital, said those seeking buyers should not expect to be flooded with offers.
Not giving up on gas
However, not all have given up on gas, with Tourmaline Oil Chief Executive Officer Mike Rose telling his company’s annual meeting that “we think in the long run gas is absolutely the best place to be.
“With a fragile economy in the U.S. it makes so much more sense to base it on gas at $5 per million British thermal units compared to oil at $80-$100a barrel,” he said.
Rose said that with the U.S. gas rig count below 550 “we don’t believe that will sustain the current level of production and it does appear to be starting to roll over, especially given the high decline nature of most of the new production.”
While it rides out the turbulence, Tourmaline has increased its liquids production since last year’s third quarter to 7,500 bpd (70 percent condensate) from 3,500 bpd and is targeting 13,000 bpd by the fourth quarter of 2013.
Its first quarter production averaged 46,746 boe per day, with gas accounting for 247,000 million cubic feet per day (up 97 percent over a year earlier), and is now about 53,000 boe per day.
Rose said that has been accomplished without buying an oil company or delving “into a brand new play area with its whole new set of risks.”
The worst of all outcomes landed on Trafina Energy on June 13, when the 21-year junior announced a court-appointed receiver will liquidate its assets after being “unable to develop a satisfactory plan to repay the indebtedness owning to its lender.”
Trafina was transformed in 2008 from a gas producer to an oil producer, and is currently producing only 70 bpd of heavy oil, but that didn’t work.
Gordon Currie, an analyst with Salman Partners, said it was rare for an oil and gas company to enter receivership when better options were available by selling assets, selling the whole company, finding a buyer or recapitalizing to find new equity.
