Quarterly reports from European Gas Limited used to be rather...

Quarterly reports from European Gas Limited used to be rather flimsy affairs. This was a company that spent the last couple of years securing the rights to large swathes of former coal mining lands in a bid to transform itself into a coal bed methane player in mainland Europe but did little in the way of actual drilling to prove up the gas-bearing potential of its acreage. But, as the company’s most recent and rather more substantial quarterly report demonstrates, the ASX-listed firm now has plenty of drillbit action on the books to ensure regular newsflow for investors.

For starters, there is the potential of the company’s newly acquired coal mine methane (CMM) project in northern France. EGL made its A$43.7 million bid for Gazonor, a wholly-owned subsidiary of state-owned mining firm Charbonnages de France, in the summer of 2007 and the deal closed in December. This deal brought production and cash flows onto the books from the Nord-Pas de Calais coal mine methane project, which comprises the Poissonnière and Désirée permits that together stretch for 578.6 sq km (a 187.5 sq km extension of the Poissonnière permit is under application).

CMM involves the degasification of old underground workings by drilling wells into the mine itself. The gas is then extracted under very low mine pressure, gathered and transported to central processing facilities for filtration, compression and onward sale: in this case the gas is piped to local industrial users. The Nord-Pas de Calais project is reckoned to have produced some 76 bcf of gas to date with remaining proven recoverable reserves of 30.6 bcf that can be produced over the next 20 years. (It is often said that CBM projects, once up and running, are like annuity plays – the gas keeps coming at modest yet steady rates year after year after year.) The drilling of additional boreholes could substantially increase the recoverable 1P reserves and there is believed to be additional potential of 371 bcf.

Current production runs at 1.4 bcf a year, which the company hopes to ramp up over the next two years. EGL plans to spend €11.0 million in potential capital works over next two years, drilling additional boreholes, refurbishing the gas processing facilities and redeveloping the project to generate electricity (which would enjoy a premium tariff because the French government counts CMM as a renewable energy). At present the average unit operating costs for Gazonor come in at €13.00 per Megawatt hour against forward gas prices of €26.00 per MWh.

The company will also explore the potential of coal bed methane. Unlike CMM, which extracts methane released as a result of mining activities, CBM involves drilling directly into unworked coal to release the adsorbed to the coal. This has the benefit that the extracted gas is often of very high quality, enabling it to be fed directly into the gas distribution network thereby reducing the filtration and processing costs associated with CMM. On the Nord-Pas de Calais project, only a small part of the coal basin has been exploited by mining and large quantities of coal remain, which contain potentially significant volumes of CBM.

This is a good project for EGL, bringing in cash flows from existing production, enhancing the company’s profile and reputation as a European gas supplier and providing additional CBM upside. It has also enabled to the company to raise new funds secured against the proven reserves and production. EGL ended 2007 with a new funding arrangement with European energy supplier Transcor Astra Group, raising €36.3 million (A$60.6 million) through the issue of two tranches of convertible notes priced at €0.75. The notes have a three year term, with a base coupon rate of 5 per cent per annum secured against Gazonor.

In the meantime, the company continues to progress its CBM projects elsewhere in France. It holds a huge swathe of the Lorraine Basin in eastern France, where last year drilling proved up the CBM potential of its 100 per cent owned 460 sq km Lorraine permit, near the border with Germany. This project is now getting ready to move into the pilot production phase, targeting more than 1 trillion cubic feet of gas (and there could be more than 7 tcf of gas across the whole of the Lorraine permit), with multi-lateral well completions possibly producing as much as 1 to 2 million cubic feet of gas per day.

It has taken time to mature this project but EGL’s persistence looks set to pay off as the initial wells, Folschviller St1 and Diebling St1, seem set to upgrade the resource in the pilot area (which covers just 7 per cent of the Lorraine permit area). The two wells found coal thicknesses were 25-80 per cent higher than anticipated, the overall gas content values were 15-25 per cent higher and the mud readings logged high to very high gas content (the gas stream also seems to hold a high proportion of ethane, an important petrochemical feedstock).

The company is now busy drilling pilot holes. It is set to finish drilling the Folschviller-2 well when a rig rated to drill down to the target depth of 1,460 metres arrives on site, some time in March or April. Lateral holes of 250 metres will then be drilled into three of the four major coal seams to test the deliverability of methane. In the Diebling area of the permit, the company has decided to select a new site for an appraisal well after the Diebling-St1 core hole indicated possible water-influx issues. The company believes drilling to the southwest would avoid this problem. Encouragingly the core hole also found higher than expected permeability, which augurs well for future production.

2008 should also drilling on the company’s 100 per cent owned Gardanne permit in southern France and St Etienne permit in central France. Two sites have been selected for appraisal drilling on the Gardanne permit in the second half of the year. It hopes to use the results of the wells to update the gas-in-place resource, which currently stands at 99 bcf. On the St Etienne Permit, the company plans a CMM appraisal well and is busy with the permitting stage. Drilling of two test wells in the Lons le Saunier permit on the Franco-Swiss border may also get underway in the second half of the year.

Given all this drilling activity, the approach of pilot production from the Lorraine permit and the production and development of the Nord-Pas de Calais CMM project, then EGL investors can expect even meatier quarterly reports in the months to come.

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