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88 ENERGY LIMITED (88E) Unconventional Conventional Thinking 88E has spudded the Icewine#2 well to flow test the prolific oil generating HRZ Shale in Alaska. Based on the results of Icewine#1 well (just 20 metres away) expectations are that Icewine#2 will flow oil to surface in the range of 100-200bopd. Obviously one well does not prove a Play, but success as prescribed would likely be sufficient to attract a major farm in partner and support the current valuation. We do note that it is unusual for a Company to prioritise unconventional shale over conventional leads, especially with an inventory of over 1bn barrels. This we believe has simply been a case of timing (plans for unconventional testing were already in place). However, regardless of the result of Icewine#2 we expect the focus to shift to the conventional oil leads over the next year or two. Unconventional before Conventional? 88E’s initial focus in Alaska was to test the ‘producibility’ of the prolific source rocks of the North Slope. Just a few years ago the industry consensus was that there remained relatively little conventional potential to pursue. Recent drilling success particularly in the Nanushuk Play has shown the latter to be incorrect. 88E in the past 12 months itself has released results of its own seismic study, which has identified up to 15 conventional leads and a potential resource of over 1bn barrels net. We currently believe this to be the primary target but has little or no value in the current 88E share price. Current Valuation – Unconventional Only Given the high standing of 88E management and the appraisal results from Icewine#1 we actually believe a successful result from Icewine#2 is already largely factored into the valuation (so any further upside post a successful result on this basis alone is unlikely to be sustained). A successful result however would almost certainly attract a farm in partner and this would be the next catalyst for a further re-rating of 88E’s unconventional acreage position. We do not believe however that the market is giving 88E sufficient credit for its conventional opportunity and we believe most of the upside over the next 24 months may come from further testing of this potential. Key Chart: Valuation Downside / Upside (A$/share) Source: Hartleys Research $0.00 $0.02 $0.04 $0.06 $0.08 $0.10 $0.12 $0.14 $0.16 $0.18 Current Downside (Unc. only) In Line Result (Unc. only) In Line + Low Case Con. Farm Out Unc. + Low Case Con. Farm Out Unc. + De-risk Case Con. Hartleys Limited ABN 33 104 195 057 (AFSL 230052) 141 St Georges Terrace, Perth, Western Australia, 6000 Hartleys does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Further information concerning Hartleys’ regulatory disclosures can be found on Hartleys website www.hartleys.com.au 0.00 0.01 0.02 0.03 0.04 0.05 0.06 0.07 . 10. 20. 30. 40. 50. 60. 70. 80. 90. May-16 Sep-16 Jan-17 May-17 Volume - RHS 88E Shareprice - LHS Sector (S&P/ASX SMALL INDUSTRIALS) - LHS A$ M 88 Energy Ltd Source: IRESS Hartleys Limited 88 Energy Limited (88E) 5 May 2017 Page 2 of 21 SUMMARY MODEL 88 Energy Limited Share Price 88E $ 0.049 Speculative Buy Key Market Information Directors Company Details Share Price $0.049 Valuation $0.070 David Wall Managing Director Upside 43% Michael Evans Non-executive Chairman Market Capitalisation Ordinary $227m Dr Stephen Staley Non-executive Director Fully Diluted $253m Brent Villemarette Non-executive Director Current Net Cash est. $16.2m Issued Capital 4632.7m Options 538.9m Investment Summary Issued Capital (fully diluted all options) 5171.6m Enterprise Value (EV) $237.2m Projects Name Country State Size (Acre) W.I.* Net acres Icew ine USA Alaska 693,039 58.37% 404,542 *Rights to 142,560 gross acres WI:77.5% and 30% WI Option on 279,360 gross acres Prospective Resource Estimate Estimated Prospective Oil Resource Conventional Leads (mmbbl) Low High Mean Net to 88e Eastern Play Fairw ay 22 272 124 96 Central Play Fairw ay 183 634 387 299 Potential Newsflow Event Western Play Fairw ay 489 1,519 957 743 Final Total 694 2,425 1,468 1,137 1H CY17 Drilling Icewine#2 vertical well HRZ Unconventional 2H CY17 Icewine Appraisal & Development Program Internal Gross Mean Prospective Recoverable Resource Estimates Mature Conventional Leads (mmbbl) P90 P50 P10 Mean POCS Gross Liquids 1,594 2,471 3,830 2,602 50% Net to 88E 1,236 1,916 2,970 2,017 50% Quarterly Cash Flow- Historical Options FY16 FY17 A$ m Mar Jun Sep Dec Mar Jun(e) Year Expires Number % ord Avg Price $m unpaid Beginning 9.33 7.49 20.05 18.44 27.30 39.68 12-Jun-17 1,000,000 0.0% $ 0.420 $ 0.42 12-Jun-17 2,000,000 0.0% $ 0.280 $ 0.56 Operating -9.93 -15.02 -1.54 -2.31 -2.17 -15.29 12-Jun-17 250,000 0.0% $ 0.160 $ 0.04 Investing 0.00 0.00 0.00 0.00 0.00 0.00 2-Mar-18 1,000,000 0.0% $ 0.014 $ 0.01 Financing 7.61 27.85 0.01 10.23 15.84 0.00 18-Feb-18 45,000,000 1.0% $ 0.015 $ 0.68 31-Aug-18 13,224,952 0.3% $ 0.160 $ 2.12 End 7.49 20.00 18.44 26.46 39.68 24.39 1-Nov-18 62,965,301 1.4% $ 0.021 $ 1.32 2-Mar-18 413,459,650 8.9% $ 0.020 $ 8.27 TOTAL 538,899,903 11.6% $ 0.025 $ 13.42 Analyst: Aiden Bradley Phone: +618 9286 2876 Sources: IRESS, Company Information, Hartleys Research 88E has established a large acreage position on the central North Slope of Alaska. Analysis of the Icewine-#1 suggests the HRZ shale has the potential to be as prolific a producer as some of the major unconventional plays in the Lower 48. The next phase of the work program involves drilling and flow testing a vertical well which has spudded. Project Icewine's attractive fiscal terms, road and pipeline access and well established source rocks mean the rewards could be significant. May-17 Last Updated: 05/05/2017 Hartleys Limited 88 Energy Limited (88E) 5 May 2017 Page 3 of 21 HIGHLIGHTS Icewine#2 Overview: 88E has announced that drilling at the Icewine#2 Production Test has commenced. This vertical well is aimed at testing the potential of the HRZ shale play (and is located within 20 metres of the Icewine#1 well, so they know what they are drilling in to!). Fig. 1: Icewine#2 Overview Source: 88E Optimism based on Icewine#1: Given the source/reservoir conditions encountered in Icewine#1, the Company expects this follow up well to achieve a high rate of flow to surface (the Company believes there is a 50% probability of achieving a flow rate in excess of 100 barrels per day, which would, in their view, provide look through to potential commerciality and justify progressing the project.). Fig. 2: Results of Icewine#1 a positive indicator Source: 88E Hartleys Limited 88 Energy Limited (88E) 5 May 2017 Page 4 of 21 IP30 of 100-200bopd: An IP30 result in the 100-200bopd range for a stimulated vertical well would place it comfortably in the expected range for a potential premium unconventional shale play. Given the Icewine Projects remoteness and with acreage largely undrilled previously for conventional, we prefer to compare it to a couple of developing plays in North West Canada and the Vasa Muerta Shale play in Argentina (the only large commercial shale play currently operating outside the Lower 48 and Canada). Fig. 3: Vaca Muerta – Comparison with US Plays Source: AEN Compares favourably with premium shale plays: A 100-200boe/d result compares with a sample of early vertical delineation wells provided by YPF for the Vaca Muerta. Production testing is expected to begin in June. Fig. 4: Vaca Muerta Delineation Well Performance (boe/d) Source: YPF In terms of a high-water mark for the Icewine#2 well to aim for we would make the comparison with the LTE.x-1 vertical well (a 5 stage frac) drilled in the Vaca Muerta in late 2012 by Americas Petrogas and Exxon Mobil. It achieved a 309boe/d flow rate (254bopd) over a 30-day period against similar pre-drill expectations. Is success already in the price? Given the high standing of 88E management and the appraisal results from Icewine#1 we actually believe a successful result from Icewine#2 is already largely factored into the valuation (so any further upside post a successful result on this basis alone is unlikely to be sustained). A successful result however would almost certainly attract a farm in partner and this would be the next catalyst for a further re-rating of 88E’s unconventional Hartleys Limited 88 Energy Limited (88E) 5 May 2017 Page 5 of 21 acreage position. We do not believe however that the market is giving 88E sufficient credit for its conventional opportunity and we believe most of the upside over the next 24 months may come from further testing of this potential. 88E – More than just the Unconventional 88E currently has exposure to a gross acreage position of 271,119 contiguous acres (210,250 acres net to the Company). In December 2016, the Company successfully bid on additional acres. On award the Project Icewine gross acreage position will be further expanded to 693,039 contiguous acres or 404,452 acres net to the Company assuming all both options are taken up. Fig. 5: 88E Alaska Overview Source: 88E The Company has released an internal estimate for prospective recoverable resources in the unconventional shale of 1.92bn net at the P50 level. Recent updates to the conventional prospective oil resource has taken 88E’s net mean exposure to over 1.1bn barrels. Hartleys Limited 88 Energy Limited (88E) 5 May 2017 Page 6 of 21 Fig. 6: 88E Alaska Overview Source: 88E and Hartleys Research Despite the positive results from Icewine#1 and 2D Seismic, this extensive acreage position remains largely untested. Key questions remaining include; • Can the HRZ Shale be stimulated to flow (Icewine#2 and follow up wells will start to answer this). • The aerial extent of the play (future wells including cores from conventional wells will assist here). • What are the likely IP’s and EUR’s per horizontal well and the D&C cost per these wells (remains uncertain but industry benchmarking provides decent guidance). A: UNCONVENTIONAL ECONOMICS 88E has previously provided some guidance based on their estimates for the potential well and operating costs. With the Icewine#2 vertical well estimated to cost close to US$18m, a cost range of US$9-17m for a 1,500m horizontal well without further analysis does not look realistic. Projects Name Country State Size (Acre) W.I.* Net acres Icew ine USA Alaska 693,039 58.37% 404,542 *Rights to 142,560 gross acres WI:77.5% and 30% WI Option on 279,360 gross acres Prospective Resource Estimate Estimated Prospective Oil Resource Conventional Leads (mmbbl) Low High Mean Net to 88e Eastern Play Fairw ay 22 272 124 96 Central Play Fairw ay 183 634 387 299 Western Play Fairw ay 489 1,519 957 743 Final Total 694 2,425 1,468 1,137 HRZ Unconventional Internal Gross Mean Prospective Recoverable Resource Estimates (mmbbl) P90 P50 P10 Mean POCS Gross Liquids 1,594 2,471 3,830 2,602 50% Net to 88E 1,236 1,916 2,970 2,017 50% Hartleys Limited 88 Energy Limited (88E) 5 May 2017 Page 7 of 21 Fig. 7: Icewine Project – Cost metrics Source: 88E However, if we compare these cost estimates to the target levels for the Vaca Muerta, we see a similar level of very high costs for initial wells and future expected costs. Fig. 8: Vaca Muerta – Well Cost Estimates Source: YPF Indeed, in the Vaca Muerta vertical well costs have fallen from close to US$11m for the initial wells in 2011 to circa US$6-7m currently. So, the costs outlined by 88E while still fluid and subject to a large number of factors, look somewhat realistic. Hartleys Limited 88 Energy Limited (88E) 5 May 2017 Page 8 of 21 Fig. 9: Vaca Muerta – Vertical Well Cost Estimates Source: YPF Going on what the Company has released, the potential differentiator for Project Icewine versus other shale plays (including the very best single zone plays) is what they expect to get back for this US$9-17m per well spend. In the Vaca Muerta (the only commercial shale play outside of the Lower 48 and Canada) a horizontal well costing US$10-14m is expected to have an IP rate of 800boepd and an EUR (ultimate recovery) of 1mmboe. Fig. 10:Vaca Muerta – Economics Source: AEN The very simple rule of thumb we use to determine a truly World class commercial shale play is; ‘IP30 of at least 100bopd and EUR of at least 100,000bbl per U$1m D&C spend.’ On this basis, the Vaca Muerta gets close, likely explaining its success (there are other factors obviously, such as access, tax, environmental and realisable price that can impact a shale plays potential commerciality). Hartleys Limited 88 Energy Limited (88E) 5 May 2017 Page 9 of 21 Again, 88E has outlined their expectations for development IP and EUR’s. IP30 per well (bopd); P90 – 1,696, P50 – 3,182, P10 – 4,097 Fig. 11: Icewine – Expected IP’s Source: 88E EUR per well (mmbbl); P90 – 0.900, P50 – 1.688, P10 – 2.173 Fig. 12: Icewine – Expected EUR’s Source: 88E On these estimates the HRZ Shale at the mid to best case would rate it among the top 3-4 shale plays in North America and likely the number 1 single zone play (i.e. excluding multi-stacked plays such as Delaware and Midland Basins). A common mistake in estimating shale project economics is to focus exclusively on the well costs. Including above ground costs and acreage acquisition costs can paint a completely different picture. Hartleys Limited 88 Energy Limited (88E) 5 May 2017 Page 10 of 21 In the case of Project Icewine water and power access will be considerations going forward, however 88E has secured the acreage for an immaterial acreage acquisition cost, further boosting the potential of its ROI versus other operators late to a developing play. We also compare and contrast Project Icewine to a number of developing plays in North West Canada (the closest in terms of location and landscape), however it should be noted that there is no direct comparison, these Canadian plays are generally either oil plays being developed with vertical wells or wet gas horizontal developments. Project Icewine based on the Company’s estimates compares very favourably on both IP rates and EUR’s. Icewine’s $/IP metrics are US$2,000 to US$10,000 based on the range of estimates provided by the Company. Fig. 13: Canadian Shale Plays - $/IP Source: Canadian Discovery A successful flow rate of Icewine#2 and costs, IP’s and EUR’s in the range outlined by the Company at the very least should be sufficient to attract in a farm in partner for follow up testing (timing of which would still likely be subject to industry oil price
88E Price at posting:
4.8¢ Sentiment: Buy Disclosure: Held
(20min delay)