article in the age, page-2

Thanks Bochman, great article.

Sinopec comes calling
Barry Fitzgerald
July 14, 2008
Page 1 of 2

GARIMPEIRO is the first to say companies should be sent to the sharemarket sin bin for promising too much and delivering too little.

But punishing a stock forever and a day can end up looking a bit dumb, particularly when a combination of super-strong commodity prices and a game-changing deal means the past has become irrelevant.

Former high-flyer AED Oil is in this position. While there remains a lot of anger among those unfortunate souls who paid $11.40 a share last October, a case can be made that with the stock back at a humbling $2.35, its future has never looked brighter.

AED's fall in the back half of last year was because of disappointment that its Puffin oilfield in the Timor Sea was struggling to produce anywhere near planned rates.

Instead of the 15,000-30,000 barrels a day promoted, Puffin has been struggling to do a little more than 4000 barrels a day.

For a project that was put into production when oil was about $US60 a barrel, the surge in oil prices to $US145 a barrel was a godsend.

But AED knew it was in trouble. It had borrowed heavily to get the 100% owned Puffin into production.

More to the point, AED no longer had the financial ability to take the remedial action required at its underperforming wells, or to drill more appraisal/development wells to get to the planned 30,000 barrels a day.

David Dix, the former Macquarie Bank and UBS investment banker who brought AED to market in May 2005, did the chairman-like thing and called in Macquarie to find AED a big brother.

More than 17 big oil types went through the data but China's Sinopec moved first, striking a $600 million deal to acquire a 60% interest and to operate AED's Timor Sea interests.

Once the deal cleared the Foreign Investment Review Board, AED paid all creditors and secured debt and settled its out-of-the-money oil hedges.

That has left it with about $300 million in the bank, 40% of the ongoing Timor Sea oil project and an $US85 million ($A88 million) convertible note that is still out there.

Market capitalisation on Friday was about $370 million, which implies a value for the retained 40% project interest of $70-158 million. The Sinopec deal implies a value for an unencumbered 40% stake of $400 million.

The big implied discount in AED's market cap might be fair enough if Puffin continued to pump at current rates and AED was going to do nothing else.

But that is not the plan. Sinopec is the world's seventh-biggest oil company and obviously believes there is plenty of potential to lift production.

While AED as a 40% partner will be cheering it on, it also maintains its independence to seek new opportunities.

What is known at this stage is that the Sinopec-led joint venture at Puffin will be proceeding with the two wells that AED itself had locked in for drilling next month.

One will be an appraisal well, probably in the south-west around the Puffin 9 and Puffin 10 wells.

The other will be a production well in the north-east. AED's share of the program will probably be a little over $50 million.

In a first for the Puffin field, the production well will be a bilateral, with its shorter reservoir drawing points in different parts of the field expected to overcome the "water coning" experienced in previous wells.

Again drawing on the lessons of previous wells, the well will also have a different sand filtration system. The hope is that the well will produce about 25,000 barrels a day, with continued production (4000 barrels a day) from elsewhere in the field ahead of likely remediation work to get that rate up.

The technical experts have crawled over the plan. AED does not want any mistakes this time around.

Production facilities are already in place and if all goes according to plan, the joint venture could be producing at the higher rate early next year.

Success in proving the joint venture's theories about the region's complex geology with the drilling of the appraisal well in the south-west could boost production again later next year.

Overriding the near-term work plan is the expectation that Sinopec will not mess around.

It has the freight and inclination to drill many more wells in the region, be they of the production and development type in the two known areas (north-east and south-west) or on new leads and prospects.

The Chinese did not pay $600 million for a 60% share of 4000 barrels a day, that's for sure.

While Sinopec takes up the running, AED will be free to pursue growth options it has been studying for the past two years.

Until the deal with Sinopec, AED did not have the people or money to pursue the growth options. Now it does, with its cash balance more than enough to fund the accelerated work at Puffin for more than three years, remembering that even at 4000 barrels a day, the project generates cash.

At current rices - Puffin oil is high-class stuff and actually commands a premium - the daily output is worth $55 million a quarter. At 25,000-30,000 barrels a day, it would be more like $337-405 million a quarter.

No wonder the Chinese came to call.