fat prophets recommends tap as a buy today

Tap Oil
Buy TAP around $1.81

06 Jun, 2007
Resurgence underway

Our predictions of a rebound in Tap Oil have proven correct, with the company set to embark on a very exciting period of exploration over the balance of 2007 and into 2008. Tap's key attractions, comprising a strong balance sheet and aggressive exploration budget, have been enhanced. We believe that the market is at last waking up to the inherent value in Tap Oil.
Fat Prophets initially recommended buying Tap Oil at $2.72 in November 2005 (Fat Mining 2). Our last review of this stock was in February (Fat Mining 66).
The outlook for Tap has improved significantly during the past week. As shown on the daily chart, the stock has staged a decisive break above the base pattern that has formed over the past seven-months.
In the past four weeks, prices have rallied more than 20%. While we cannot rule out a pause for consolidation following such firm gains, we believe that downside risks are limited. Initial support lies between $1.70 and $1.67 with additional support in the region of $1.60 underpinning the stock, in our opinion.

We believe that Tap has entered the early stages of a longer-term re-rating by investors. Given that the stock was trading at $3.26 less than two years ago, we believe that there is considerable potential for additional gains beyond $1.81 in the months ahead.

Despite Tap Oil's poor price performance over the past 18 months, in our most recent coverage we highlighted that things were ready for a turnaround. Well that recovery certainly seems to be occurring now.
Despite declining reserves, Tap Oil has strong fundamentals and we believe that through persistence and with just a little bit of luck, the company can utilise its tremendous balance sheet strength to generate exploration success.

In our view, no other oil company offers Members the potential pay-off that Tap does, should it hit the jackpot with its well drilling program.

We also encourage our Members with little oil exposure in their portfolios to boost this particular component of their portfolios.

The reason? Well, the annual US summer driving season has begun and this typically represents a key peak demand period for crude oil. US motorists jump in their motor vehicles from the Memorial Day Holiday on May 28 onwards, as they take their summer vacations.
Last year we saw crude oil prices hit all-time record levels during the US driving season and we see no reason why the situation won't be repeated in 2007.
When we factor in the uncertainty of the upcoming US hurricane season, which is predicted to be the worst for many years, we believe that oil prices are set to surge.
Let's now return to Tap and examine what we believe to be the reasons for its resurgence.

Firstly, Tap Oil retains more than $100 million in its coffers and is planning on spending more than $40 million on exploration over the next 12 months. The company has no debt whatsoever and is completely unhedged with respect to its oil and gas production.
All of these are enormously attractive features that we have highlighted for some time now, but finally the market is beginning to take notice.

Tap's 15%-owned Woollybutt oilfield in Western Australia continues to exceed expectations with respect to production. The field is currently producing at a rate of around 8,000 barrels per day.

The field has produced more than 26.5 million barrels of oil so far (purely from the Northern Lobe) and the joint venture is targeting total field production of more than 40 million barrels.

The joint venture is undertaking development of the Woollybutt Southern Lobe, with the development wells Woollybutt-4H and 6 scheduled for mid-2007. Tap anticipates first oil from this area in early 2008.
The joint venture has upgraded the Woollybutt oil field reserves by 10 million barrels, based on the performance of the northern lobe and the reserves so far accessed in the southern lobe.

In total, estimates suggest 6.5 million barrels of remaining reserves in the Northern Lobe and 7 million barrels in the Southern Lobe, with a further 2 million barrels potential respectively within each of the Northern and Southern Lobes.

Meanwhile within the Harriet Joint Venture, also offshore Western Australia (Tap 12.22% stake), a number of new gas development wells have been commissioned and the West Cycad well, previously reported as a failure, was recently developed at exceptional start-up rates.

Whilst the Harriet field has suffered from declining reserves over recent years, the joint venture has typically been able to replenish reserves over the field's 10 year operational history. Therefore, it is not your typical oilfield with natural and predictable production decline.

We see no reason why the Tap and its operator partner, Apache, cannot further extend the Harriet field life. To do this, the partners will target two key exploration plays: extending the existing producing Flag sandstone reservoir southwards; and targeting deeper reservoir targets.

Let us turn our attention now to the company most recent exploration opportunities, which we believe are creating significant short-term excitement, but could lead to a longer-term re-rating of the company.
As we have previously emphasised, Tap is targeting growth 'through the drill bit.' Acquisition would be the far easier short-term option as far as the market is concerned, as it would provide a 'quick fix' to Tap's production and reserves issues.

Fortunately in our view, Tap has been unwilling to weaken its balance sheet or dilute its shareholders equity to acquire assets at what it describes as 'frothy' prices.

Tap has done a great job of maintaining a tight capital base and as a result even modest success will have a material impact on its share price.

2007 will be a very active year, with more than $40 million budgeted for exploration and appraisal activities.
Let us firstly revisit the Amulet oil field discovery, which in our view was a highlight of 2006 that the market has apparently forgotten about. Tap sole-risked the drilling of the well and it was a success.

Three wells at Amulet have revealed a number of oil columns within production licence WA-8-L in the Dampier Sub-basin of Western Australia. Amulet represents what we regard as a significant oil discovery, with the potential for increases beyond Tap's initial estimate of 10-15 million-barrels of recoverable oil. We eagerly anticipate follow up drilling later in 2007.

Quick calculations on a simple NPV (net present value) basis suggest that should Amulet host recoverable reserves of 10 million barrels, then Tap's share stake (based on A$30 per barrel NPV in-ground oil) could be worth 38 cents a share.

Following the success of the program, acreage partner Santos elected to back-in to the program. The penalty terms however dictate that if the project proceeds to development, Santos must pay the original well participants (Tap and Kufpec 50% each) 15 times the cost of the Amulet-1 well from oil production revenues. We estimate Tap's pro-rate share of this at around $35 million - or 22 cents a share. Tap's stake in Amulet will reduce to 20%.

Tap will be involved in a new exciting well within the next few weeks, situated just 4km from the Amulet discovery. The Totem-1 well (Tap 23% stake) in WA-191-P will test a 20 million barrel oil target. In the event of success, Tap could fast-track the joint development of both Amulet and Totem.

Immediately following Totem-1, Tap will have an 8.2% stake in the Fletcher-1 well, which is being drilled about 30km away in WA-191-P.

Another potentially exciting, more advanced appraisal play is the Maitland Gas Field, also offshore Western Australia. Tap has a 22.47% stake in this gas field, which was discovered in 1992 and has flowed gas at significant rates of up to 8.5 million cubic feet a day.
Horizontal flow testing is planned for July 2007 and if successful, development of the field would more than likely follow. The field lies 45km west of the Varanus Island gas processing facilities and in water depth of just 60 metres, which is favourable for low-cost jack-up rigs and platforms.

Total booked reserves at Maitland comprise 260 PJ of gas (Tap's share 60 PJ), with Tap's share of liquids being around 1 million barrels.

Another very exciting play that has so far been unappreciated by the market is WA-351-P, offshore Western Australia. The unsuccessful Jacala-1 well drilled last year targeted a shallow oil discovery; however the immense deeper gas potential of the block is now being examined.

The area is a proven gas fairway that hosts discoveries containing trillions of cubic feet of gas. Tap holds a 25% stake in WA-351-P. Recent deals have seen Amerada Hess commit to a $500 million work program on adjoining block WA-390-P and Chevron bid a $50 million work program on another adjacent block WA-392-P.

Tap is also pushing for the re-drilling of the Marley-1 exploration well within its Harriet joint venture acreage. The original well was abandoned due to bad weather and never reached its deep Jurassic target, which could host 1 trillion cubic feet of gas. The well could be redrilled this year and success could change the whole dynamics of the Harriet joint venture.

TAP has also been very active in an exploration push into South East Asia. Last year it acquired a 58% stake in the SC-41 project in the Sandakan Basin, offshore The Philippines. It covers an area of 5,000 sq km and at this early stage TAP has indicated potential oil volumes may be as much as 50 - 150 million barrels. The geology here is important, as it is analogous to high quality reservoirs in offshore Borneo rather than some of the more difficult reservoirs in The Philippines.

Tap recently farmed down its interest to 50%, but will remain operator and will be essentially free-carried through a detailed 600 sq km 3D seismic program. Tap anticipates this permit to yield a number of drillable prospects with a high chance of success.

Meanwhile in New Zealand, Tap has a 40% stake and is the operator of the Barque prospect, offshore the east coast of New Zealand's South Island. Tap anticipates drilling a well in early 2008 that will test a massive 5 trillion cubic feet gas/500 million barrel condensate target.

With such an aggressive exploration program, supported a by a strong balance sheet, we believe the prospects for Tap Oil are better than they have been for several years.

Accordingly Tap Oil will remain held within the Fat Prophets Mining & Resources portfolio, but for Members with no current exposure we recommend the stock as a Buy around $1.81.