growth aplenty coming soon

‘An extreme case of contagious myopia is rampant in the Australian investment market’, an investor said today.

Don’t take fright and avert your eyeballs — that’s only my bemused ramblings of course. But how else can you explain the market’s apparent disregard for what Blind Freddy could see is a drill program in the throes of transforming AMU’s production, profit and reserves profile.

Before elaborating, lets set the scene with a walk through AMU’s production history for this century. (Apologies in advance if the table format screws up).

Oil production/barrels Gas production/mmscfg
Annual Daily av. Annual Daily av.
2000-01 189 577 520 13.5 0.037
2001-02 166 589 456 20.5 0.056
2002-03 194 710 533 57.7 0.158
2003-04 256 097 700 149.2 0.408
2004-05 (Q1) 765 0.467
* Production figures are net to AMU after royalties.

Two stories emerge from this little table:
1. the trend of substantial year-on-year production growth from 2001-02; and
2. a major (and deliberate) shift in the balance of production from relying almost entirely on oil, to one where gas assumes a much greater role.

The benefit of the first of these is self-evident — more oil and gas production equals more revenue and profit.

The benefit of the second is less apparent but equally significant. Hefty oil price increases in the last year or so have swollen revenues, but doubts remain about how long this will continue. (My own view is that the growth of China’s economy and, to a lesser extent, India’s will keep demand pushing supply capacity for at least the next 2 to 3 years). High gas prices in the US, on the other hand, look like hanging around for many years in the face of a very strong growth in domestic demand and an ongoing shortfall in domestic supply. Against this backdrop, AMU’s has deliberately sought to diversify its revenue base by ramping up its gas production. This is a very, very sound strategy, and indicative of a management that looks to the future.

(As an aside, AMU’s biodiesel arm will also diversify revenue from US dollars to a balance of US and Aussie dollars, as well as offering potential profits to match those from oil & gas. But that is another story).

Now lets look at how actual and planned drilling since the release of the FY2003-04 annual report is likely to radically change AMU’s production for FY2004-05 and on.

The second half of 2004 has seen AMU kick off a major drilling spree. The main focus revolves around punching holes into Raccoon Bend and Lavaca County, although Red Creek and Knox County have received some attention (albeit with mixed results). The actual and likely success from that drilling is set out below.

RED CREEK
Drilling in FY2004-05 to date has seen 2 successful completions – Rash Barrett A#3 and A#4. Although production data on these wells has not yet available, production from other Rash Barrett wells suggests they would flow around 80 bopd. On that basis, AMU’s 60% working interest in these wells means it could expect to gross around 45 bopd from each — with attributable production after royalties of about 35 bopd each.

So these 2 wells combined should deliver an additional 70 bopd to AMU (about 2100+ a month). This alone is a 10% increase on FY2003-04 average daily oil production.

Assuming these 2 wells contribute only to the second half of FY2004-05, they will add around 13 000 barrels of oil to AMU’s attributable production for that financial year.

On an annualised basis, these 2 wells could add about 25 000 barrels a year to AMU’s attributable production.

RACCOON BEND
Since end June 2004, AMU has kicked off a 32 well drilling program for this patch. So far 4 have been drilled of those 32 – with the balance of 28 wells to come in 2005

Three of those four have been successful: with 2 completed as oil wells (Wilson #24, and Luther Sherrod #37, for a gross 100 bopd and 120 bopd respectively) and one gas well (Paine#44 for a gross 260 mscfg a day). With its 60.5% WI, this would deliver to AMU gross production of about 133 bopd and 157 mscfg a day before royalties. Attributable production after royalties would be closer to 105 barrels of oil and 126 mcfg a day (or some 3200 barrels of oil and 3.8 mmcfg a month).

These will certainly contribute to the second half of FY2004-05, adding around 19 000 barrels of oil and 23.0 mmcfg to AMU’s attributable production for that half (and probably a month or so of production in Q2 as well.

On an annualised basis, the Raccoon Bend success to date would deliver around 38,000 barrels and 46.0 mmcfg a year.

And this is for just 3 completions out of the first 4 wells drilled!

If we assume a more modest success rate of only 50% for the balance of the 28 wells foreshadowed, that still implies 14 completions over the course of the CY2005. By speculating that the same ratio of oil to gas successes might apply and that flow rates are roughly the same for future successes, I estimate that AMU’s Raccoon Bend drill program could deliver another 4 gas producers and 10 oil producers. That sort of success would give AMU’s attributable production a further boost of around 500 barrels of oil and 500 mcfg a day.

On an annualised basis, results like these from the 2005 drill program would see around 182,000 barrels of oil and some 182.5 mmcfg added to AMU’s attributable production.

Coupled with success from the first 4 wells, AMU’s drill program could easily see annual attributable production from its Raccoon Bend holdings increased by a whopping 220,000 barrels of oil and 230 mmcfg.

(To put this in dollar terms, it is the equivalent at today’s WTI and Henry Hub prices of some US$9.8m and US$1.65m: a total of around US$11.4m or A$14.8m).

The AMU story just gets better though. Because the real company making potential resides in their share of the drilling of Lavacca County

LAVACCA COUNTY (Halletsville South)
Three wells have been drilled so far on this ground, with 2 successes (Scheinemann and Gerdes). Estimated flow rates for each of these are around 1.5-2.0 mmcfg and about 35-50 barrels of oil a day. AMU generally has a 25% working interest in these wells. After royalties, I estimate this would equate to roughly 320 mcfg and 7 barrels of oil a day for each well. So these two combined are already adding around 640 mcfg and 14 barrels of oil a day to AMU’s attributable production.

On an annualised basis, these two wells should deliver a healthy 233 mmcfg and just over 5000 barrels of oil to AMU’s attributable production each year.

Another well (Byczynski #1) is currently drilling and has already encountered 30’ of gas charged sand with 16% porosity at 9500’, good gas shows at 10,407’-10,407’, 10,660-10,900’ and 10,980-11,010’. In the face of extremely strong gas shows, the well is drilling ahead to target depth at 11300’. All that sounds very promising for a solid commercial flow to me.

This patch of ground is scheduled to have 2 deep gas wells drilled in each of the four quarters of 2005. Assuming a 50% success rate – as against the 66% success rate to date (and likely higher when the B#1 logging is completed) – and similar flow rates, this implies one completion a quarter with equivalent production to Scheineman or Gerdes (each of which AMU has stated is expected to deliver A$750,000 annually to the bottom line!!)

Four similar successful completions over 2005 would add 466 mmcfg and 10,000 barrels of oil to AMU’s yearly attributable production (and a further A$3.0m in annual profits).

If this comes to pass (the recent success rate and flow rates of nearby wells into similar formations suggest this is not unreasonable) then by end CY2005, Lavacca County could deliver to AMU total attributable production of 700 mmcfg and 15,000 barrels of oil. At today’s prices (WTI $45.64/HH $7.17), that would be worth just over US$5m and US$680,000 (US$5.7 or A$7.4m).


So lets revisit that production table again, but this time with the addition of what FY2004-05 and the annualised production likely at end-2005 might look like.

Using the production figures included in the last September quarterly (Q1/04-05), with oil production of 70,000 barrels and gas 42.5 mmcfg as a base, the numbers might look like this.

Extrapolating Q1/04-05 production indicates an annualised attributable production for AMU of 280,000 barrels of oil over the full four quarters of FY2004-05. Add to this about 12,000 barrels of likely Red Creek production from Rash Barrett A#5 and #6 for Q3 and Q4, 2500 barrels from just one of the first Lavacca County gas wells produced over the four quarters, Raccoon Bend production from Wilson and Luther Sherrod for the second half of the year of around 19,000 barrels. That gives around 313,500 barrels of oil.

Extrapolating Q1/04-05 gas production indicates an annualised production of 170 mmcfg. Add to this the 23 mmcfg from Paine #44 expected over Q3 and Q4 at least. Another expected gas success on Raccoon Bend could be expected to deliver at least 3 months production for around 11 mmcfg. Add to this a full year of just one of the known deep gas successes for a further 116 mmcfg, and six months production from the other of say 58 mmcfg. On top of that, add some production for an expected success from the 4 wells producing for say one quarter with a conservative 20 mmcfg. That all comes to 170+23+11+116+58+20 = 398 mmcfg.

End 2005 is juicier still. Using the extrapolation from the Q1 base, which gives an annual production of 280,000 barrels of oil and 170 mmcfg, the sums go like this:

Annual addition to base oil production likely from Red Creek of about 25 000 barrels a year, from Raccoon Bend of about 220,000 barrels of oil, and from Lavacca County of about 15,000 barrels. All that adds up to 540,000 barrels of oil.

The gas equation looks like this. Base extrapolation of 170 mmcfg. Add Raccoon Bend estimated annual contribution of 230 mmcfg and Lavacca County producing at an annual rate of 700 mmcfg, and total attributable gas production at end 2005 could well be pumping along at an annual rate of 1100 mmcfg.

You can plug your own numbers in to get an idea of likely revenue and profit. But, however you look at it, the number is BIG. Using a US$35 a barrel and US$5.50 gas price, for example, delivers total revenue of US$18.9m and US$6.0 (US$24.9m or A$32.5m). Satisfyingly big dollops of that would have to stick as profit. In this example, a margin of $15 a barrel and $5 a mscfg would not be unreasonable. That would yield oil profits of US$8m and gas profits of US$5.5m (US$13.5m/A$17.5m)


Oil production/barrels Gas production/mmscfg Annual Daily av. Annual Daily av.
2000-01 189 577 520 13.5 0.037
2001-02 166 589 456 20.5 0.056
2002-03 194 710 533 57.7 0.158
2003-04 256 097 700 149.2 0.408
2004-05 313,500 856 398.0 1.09
End 2005 540,000 1480 1100.0 3.01
* Production figures are net to AMU after royalties.

Impressive is it not!

Draw your own conclusions. For my money, AMU seems like a company that has a lot going for it now, and will be even more appealing down the track.