As a teenager Michael L. Reger worked as an oil and gas landman, visiting farmers on behalf of his father’s company in the Williston basin of North Dakota and Montana.
Reger is still knocking on doors, but he does so now as chairman and CEO of Northern Oil and Gas Inc., a company he co-founded in 2006. The message Reger delivers these days to landowners, operators and shareholders is as compelling as it was two decades ago.
That’s because Northern Oil and Gas, based in Wayzata, Minn., is an oil and gas exploration and production company building an impressive presence in the Northern Plains. As one of the largest non-operating participants in the Bakken/Three Forks play, Northern has mushroomed in size during the past three years.
Listed on the American Stock Exchange in March 2008, the company’s initial public report, for the first quarter of 2008, showed a net loss of $187,000. In the very next quarter, the company climbed out of the hole, posting a net profit of $283,465 on revenues of $764,528. Since then, Northern’s annual profits have grown, despite quarterly dips and spurts brought on by fluctuations in oil prices and other factors. From a net income of $2.8 million on $14.2 million in revenue in 2009, Northern’s profits soared to $40.6 million on revenues of $149 million in 2011. And analysts predict the stellar growth is far from over.
Leases in the “thick and juicy” part
Like most oil and gas companies Northern holds leases, or percentages of leases, rather than actually owning land. In six years since official startup in 2007, the company’s portfolio of mineral rights leases has ballooned to more than 170,000 net acres located in prime Bakken country — Mountrail, McKenzie, Dunn, Burke, Billings, Williams and Divide counties in western North Dakota.
Reger has called this area the “thick and juicy” part of the Bakken.
Northern has invested in numerous wells being drilled by experienced oil and gas independents and majors throughout the Bakken/Three Forks play. Producers now working in the area include well known industry names such as Marathon, Hess, ConocoPhillips, Statoil and Oxy, as well as Bakken-grown companies, such as Continental Resources, Whiting Petroleum and Slawson Exploration.
Northern’s participation in Bakken and Three Forks wells is proportionate to its leasehold interest in each drilling unit that is drilled by its operating partners. For example, if Northern controls leases on 160 acres in a 640-acre drilling unit – or 25 percent of the unit – the company would participate for its proportionate 25 percent working interest in any well drilled in that unit.
As a non-operating (minority) working interest owner in a well, Northern says it does not bear all the operating and overhead costs of its operating (majority) partners, making it a low-cost producer in the Bakken and Three Forks play
At Dec. 31, the company was participating in 664 gross producing (57.9 net) wells and 175 gross (18 net) wells being drilled or completed, with aggregate daily production of about 5,275 barrels of oil equivalent (up 117 percent year-over-year) in 2011. But those figures change every day as more and more wells are drilled on the leases in which Northern holds an interest.
Proved reserves also jumped 198 percent in 2011 to 46.8 million boe (89 percent oil and 11 percent natural gas and natural gas liquids), boasting a pre-tax value of $1.1 billion as of Dec. 31 and a 38-year average reserve life.
Added proved reserves of 31.1 million boe in 2011
“Operationally, our 2011 performance reflects another year of successfully executing our strategy of developing our acreage position and building a long-life reserve base. Our success enabled us to increase proved reserves by 31.1 million boe in 2011, representing approximately a 1,700 percent replacement of our 2011 produced reserves,” Reger said in a recent statement. “We are also pleased with the expansion and syndication of our credit facility. With our increased borrowing capacity, we are well-positioned to continue our growth and expansion.”
Bullish on the Bakken
Reger believes that growth is assured because of the vast potential of the Bakken petroleum system, which includes the Three Forks formation.
Named for Henry O. Bakken, a North Dakota farmer upon whose land drillers discovered the Bakken in the 1950s, the formation lies about 10,000 feet beneath the surface of the Williston Basin. Described by geologist as being like a rock sandwich, the formation is comprised of two shale layers — the upper and lower Bakken shale — enclosing a section called the Middle Silt, or Middle Bakken. The Middle Silt reservoir is thin, rarely more than 40 feet in thickness, and about 22 feet on average in North Dakota.
For decades, drillers noticed the Bakken as they sought deeper pools of more easily recoverable oil. They reported that Bakken crude had a low sulfur content and required little refining.
“You could take this out of the ground and put it in your car,” Reger has observed.
But the Bakken formation yielded little crude to conventional drilling. The advent in the 1990s of horizontal drilling, combined with proved hydraulic fracturing technology, was the key to unlocking the Bakken’s potential.
Explorers now drill 10,000 feet to reach the formation and then turn the well bore at a 90-degree angle to horizontally drill through the Middle Silt. Then they “frac” a well – injecting a sand, gel and liquid mixture that fractures and stimulates the formation, causing oil to flow more easily and in larger quantities to the surface.
In 2008, the U.S. Geological Survey estimated the U.S. portion of the Bakken formation held 3.65 billion barrels of mean undiscovered volumes of oil, 1.85 trillion cubic feet of associated natural gas and 148 million barrels of natural gas liquids.
Reger thinks USGS estimates are low.
“We continue to be impressed by the extensions of the field and the infill drilling potential that is now clearly evident,” he said recently.
In addition, beneath parts of the Bakken (“definitely beneath our parts,” Reger has told reporters), directly below its lower shale, lies another silt formation called the Three Forks/Sanish.
According to the most recent study by the North Dakota Geological Survey and Department of Mineral Resources, the Three Forks formation could yield an additional 2 billion barrels of oil, enhancing sustainability for the play over time. (The 2008 USGS estimate did not include an appraisal of Three Forks, but its next assessment will, the agency recently said.)
The Bakken and Sanish formations are mutually exclusive: “They don’t ‘communicate,’ meaning that if you drill into the Sanish, you’re not draining the Bakken, and vice versa,” Reger has said.
One of highest-paid Midwest CEOs
Today, Reger is celebrated as one of the youngest CEOs in corporate America and one of the highest-paid CEOs in the Midwest.
To better align his interests with those of Northern’s shareholders, he agreed not to take a base salary in 2011 and 2012. Still, in 2011 Reger received more than $7.75 million in total compensation ($1.6 million in bonuses and about $6.2 million in company stock).
Along with Gilbertson, a former derivatives trader and now Northern’s president, Reger is credited with much of Northern’s rapid rise to prominence in the North Dakota oil industry.
“The boys have done a great job,” one older board member told a local business journal.
Lesson learned
Growing up in Montana, Reger spent his entire career engaged in the acquisition of oil and gas mineral rights in the family business, Reger Oil, before co-founding Northern. He holds a bachelor’s degree in finance and an MBA in finance/management from the University of St. Thomas in St. Paul, Minn.
In 2005, he and Gilbertson plotted the launch of an oil exploration company. But a conversation with Reger’s father convinced the pair to shift their focus. The senior Reger had sold the mineral rights to a 640-acre section — one square mile — in Sheridan County, Mont. that he picked up at a state sale to Kodiak Oil and Gas of Denver but kept an “override” that entitled him to roughly 3 percent of the revenue from any oil that Kodiak might produce. Kodiak drilled three productive, conventional wells on the acreage, and Reger’s father gladly collected a significant return on the override.
But the younger Reger gleaned a different meaning from the father’s experience. “It became clear to me in that moment that my dad left a lot of money on the table,” he told a reporter. “Because the embedded value in that lease, and leases in general, is not the broker’s flip for double or triple or however many times your money. The embedded value is the production and the reserves.”
Reger’s father had been able to spot the value in the section in the first place because three generations of the family have worked in the region’s oil patch since 1952 and currently own a large seismic database on the Williston basin.
“If you have the data, and you have the acreage, you know it’s highly likely the oil is there. So why sell the lease, even at a hefty multiple of what you paid? Override or no, instead of selling the lease, like a broker, “the smart thing to do would have been (to) keep the lease and drill it,” argued the younger Reger. “Drill it, yourself, bring in a partner to drill it – something. Don’t sell the lease.”
Following this philosophy, Northern acquired leases on 22,000 acres in Montana as well as 10,000 natural-gas acres in Yates County, New York before setting its sights on the Bakken play.
Foolproof future?
Reger says Northern’ strategy is simple: Maximize its exposure as a non-operator in the Bakken/Three Forks play; acquire “opportunistic” acreage (about 42,000 net acres in 2011 at an average cost of $1,832 per acre); maintain financial flexibility and a strong balance sheet ($750 million revolving credit facility with $250 million borrowing base); and use a consistent hedging program to manage risk.
With a low-overhead business model, Northern’s position is virtually foolproof, argues Reger. Even if the company stopped leasing acreage immediately, and even if the price of crude oil should somehow plummet, Northern almost can’t avoid making a pile of money.
“I could fall asleep under my desk for the next two years and wake up a hero,” Reger told a reporter.
As the company has grown, so has its costs, including expenses associated with personnel. Northern’s permanent work force more than doubled in 2011, jumping 122 percent year-over-year to a still modest-size 19 employees. The new additions joined the land, legal and finance departments, including a new general counsel and chief financial officer. The company had five permanent employees, including Reger and Gilbertson, in 2007.
Northern also moved in 2011 to add more depth and expertise to its board of directors, bringing on Richard D. Weber, chairman and CEO of PennEnergy Resources, LLC, and business consultant and land exchange expert Delos “Cy” Jamison.
2012 capex: $325M drilling, $80M leases
For 2012, Northern’s capital expenditures budget includes $325 million for drilling and $80 million for lease acquisitions. The company has targeted 44 net wells spud during the year at an average estimated well cost of $7.4 million and doubling 2012 production to about 4 million BOE.
“We are encouraged by the pace of drilling and completion activity in 2012,” Reger said in March. “Approximately 39 percent of our total producing net wells were brought online during the most recent two fiscal quarters. This represents a significantly accelerating pace of development on our acreage. We continue to execute our strategy of acquiring high-quality, non-operated acreage and turning it efficiently to production and cash flow.”
