From Jonno07 on the Tangiers thread. Namibia/Kenya/PCL mentioned...

From Jonno07 on the Tangiers thread. Namibia/Kenya/PCL mentioned (bolded) and perhaps of general interest

Seekingalpha -- January 5, 2014 -- Editors' Note: This article covers a stock trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.

The purpose of this article is to explain and apply a phenomenon known as "Pre-Drill Multi-Bagging Hypothesis" to Taipan Resources that is currently entering into the pre-drill time frame (where this phenomenon typically begins to very significantly impact the share price upward).

Introduction to the Pre-Drill Multi-Bagging Hypothesis

Small cap exploration companies approaching their first big drilling event can experience exponential share price growth even before the risky drilling process begins. We will be taking a look at the theory behind this phenomenon, the criteria needed for it to happen, some past and current examples of how it impacted the pre-drill share price and how Taipan Resources is the next stand-out candidate to experience this phenomenon in the West African exploration region in 2014.

The theory behind the surge in a small cap resource stock before its first big drilling event is that the market begins to price the chances of an oil discovery into the share price. Although 'wildcat' drilling by small cap resource stocks is risky, the market does not want to miss out on a discovery if one occurs. So in the two to six months preceding the drilling, the share price begins to reflect a "Risked" element of a discovery, that is, the chance of an oil discovery multiplied by the oil volumetric potential. A basic Risked NPV for the upcoming drilling can be estimated as follows:

RNPV = S x NPVb x GCoS

This is really a much simpler formula than it looks.
Let's explain the four components:

1. RNPV = The Risked Net Present Value of the Prospect
2. S = The Size of the Prospect
3. NPVb = The Net Present Value per recoverable barrel of oil
4. GCoS = Geological Chance of Success

Now let's take a look at some of the inputs to the above.

But first a little on "oil finding" geology

Figuring out the mean resource size on a drill prospect can be a tricky exercise undertaken by the company geology team. World class experts such as Sproule World Wide Consultants can often be engaged to also acquire an independent estimate. It requires some good seismic data on the prospect and often complex simulation software such as Monte Carlo or GeoX is used to calculate GCoS. The all important seismic data will show the general size of the prospect and hopefully some good shale-sand intervals, traps, faults, four-way closures, bounding faults etc. Inputs to the GCoS estimate include source, reservoir and trap. As the old Amoco adage goes:

"It's all about source rock, the rest is just details."

Source can be evidenced perhaps by oil seeps, nearby oil or gas shows in previous wells or a big 'outcrop' visible at surface showing big shale-sand intervals. Traps or seals are typically formed where a big non-porous shale rock overlies a porous sandstone reservoir. They can also be created by faulting, where, after some tectonic shifting, the non-porous shale section in the fault lies alongside the porous oil bearing reservoir, thus preventing further migration or 'breaching' of the reservoir. Other factors such as known porosity or permeability from previous wells in the area might indicate the potential rate of oil recovery in the event of a discovery. Primary recovery factors around 15-20% would be seen as normal in a conventional well but certain stimulation techniques such as gas or CO2 injection can improve the prospect economics in the event of developing a discovery.

In terms of chance of success for 'wildcat' wells, nothing more than 30% is ever really credible amongst the geologist community, unless there's an outstanding prospect with multiple stacked horizons and proof of source rock. The more different aged horizons and traps in your drill, the higher your chance of success.

Taipan has already fully mitigated the pre-drill funding risk

The first risk that small caps need to avoid is that they do not default due to lack of cash before drilling which often happens. As was indicated in the first article, Taipan is fully carried for its entire well drilling program on their Block 2B and only have a 20% contribution for the drill that will take place on their Block 1.

Once the risk of default is eliminated and it's established that they will get their shot at the big time, then fulfilling the following three crucial criteria ensures the share price can begin to reflect the risked net present value (RNPV) of the prospect:

1) Big credible partners

The small cap exploration company must entice some big credible drilling partner (known as a farminee). They must convince their farminee that the geological argument for their play-type is sound. Having a big well respected exploration company farm into the prospect provides equity investment firms such as BlackRock, JPMorgan, Henderson Global, with the "third party (put your money where your mouth is) validation" they need to invest in the small cap explorer's stock pre-drilling. This institutional interest is one of the drivers of the Pre-Drilling Multi-Bagger Hypothesis.

2) Well funded

The small cap exploration company needs to have plenty of cash on hand, enough to fund the drill and ideally the big partners they have convinced to join them in the block are paying for it by 'carrying' the small company through drilling costs. Such is the case with Taipan Resources as discussed in the previous article.

3) Prolific acreage with big prospect size

Big prospects on prolific or 'new idea' prospective acreage is what drives big companies to farm into acreage with a small company. The country might have had a few recent oil discoveries or the new idea might be that the country's oil play-type might be analogous to oil discoveries in a similar geological setting (such as the idea that Offshore Namibia could yield similar discoveries to Offshore Brazil as they were both once part of the Pangea super-continent).

Some Examples of the Pre-Drill Multi-Bagger Hypothesis

Let's examine some past and present examples and their key success factors in causing this multi-bagging of their share price to occur:

1) Africa Oil Corporation (AOI.V)

Block 10BB - 50% 'Ngamia' Drill Onshore Kenya

•Share price rise: $1.18 CAD Aug '11 to $1.97 Feb '12 (~67%)
•Big Partner: Tullow Oil Plc (TLW.L)
•Funding: Tullow Oil were carrying Africa Oil for drilling Ngamia.
•Prolific acreage or credible idea: The Albertine Basin in Uganda was a similar aged East African Tertiary aged rift basin, where Tullow Oil and Heritage Oil struck oil along the basin bounding fault. The same play type was to be applied in the successful Ngamia-1 in the Kenyan Lokichar basin.

NOTE: Africa Oil's share price is currently $9.26

2) Pancontinental Oil and Gas (PCL.AX)

Block L8 - 15% 'Mbawa' Offshore Kenya
•Share price rise: $0.07AUD Dec '11 to $0.22 Aug 12 (~200%)
•Big Partner: Apache Oil Corp. (APA), Origin Energy Ltd. (ORG.ASE) and Tullow Oil (TLW.L)
•Funding: Tullow Oil were paying for PCL's drilling to a cap of $60million gross.
•Prolific acreage or credible idea: Big gas discoveries were made to the South in Tanzania and Mozambique while Kenya Onshore had produced its first oil discovery (Ngamia-1).


3) Tower Resources Plc (TRP.L)

30% 'Welwitschia' Offshore Namibia (spudding Mar 2014)
•Share price rise (to date): 1.22p Oct 13 to 4.8p Dec 13 (~300%)
•Big Partner: Repsol (OTCQX:REPYY)
•Funding: 2 fund raisings totaling $18 million in 2013, plus 10% further farm down on the way.
•Prolific acreage or credible idea: The credible idea is that Namibia was once linked to Brazil and big offshore Brazil oil discoveries can be repeated on the Namibian side of the Atlantic. The recent HRT (HRTP3:BZ) Wingat-1 well encountered two encouraging oil generating source rocks in blocks South of Tower's block. Huge net risked recoverable resource of 496 mmboe, net to Tower, in 4 way dip closures. The huge risked NPV of 'Welwitschia' means the share price could well have a lot more upside in the next 2 months pre-drilling, assuming they secure their farm out.


There are many more examples of big rises in share price for small cap resource stocks approaching their first drilling catalyst. A recent Goldman Sachs E&P 50 report showed how in 2010 the capital markets priced in this first drill event up to ten months before drilling but by 2012/2013 this price-in period had shortened to two months prior to 'spud'. We would expand on this by adding the shrewd investor should begin to take their position within six months before drilling in anticipation of the share price rise, depending on the particular play involved.

So who's next for the Pre-Drill Risked NPV 'Price-in'?

Taipan Resources Inc. (TPN.V)

At the current share price of CAD $0.28, Taipan's market capitalisation is a mere CAD$24 million. Taipan has 45% of Onshore Kenya Block 2B and 20% of Block 1, and the gross area of the two blocks would cover Belgium; indeed, they are the fourth largest holder of onshore acreage in Kenya after three multi-billion dollar companies.

As mentioned in the first article, there are six exploration wells scheduled this year in the Kenyan region and 2 of these 6 are on Taipan's blocks 1 and 2B.

Let's take a look at the big three criteria to set this Pre-Drill Multi-Bagger Hypothesis in motion for Taipan Resources:

1) Big Partners

They are partnered with Premier Oil (PMO.L) on Block 2B and Afren (AFR.L) on Block 1. And they have the right management team to find the oil - CEO Maxwell Birley has a 50% wildcat hit rate while exploration manager Paul Logan has a 70% hit rate and was involved in the Ugandan Albertine Basin oil discoveries during his time with the Heritage Oil (HOIL.L)/Tullow Oil joint venture. Intriguingly, Paul Logan joined the Taipan team a few days before they announced the Block 2B farm in with Premier Oil, so whatever impressed Premier about the seismic, Logan was equally buoyant about it. The Risked NPV for Taipan's Pearl prospect on their Block 2B, net to Taipan is $135 million while the Risked NPV for the Khorof prospect on Block 1 is about $30 million. Together they make a Risked NPV of $165 million which is 7 times the current share price. We think over the 6 months preceding Q3 drilling of both prospects, the market will begin to price in most of the $165 million risked element of a discovery. As Max Birley said on a recent conference call, about the Pearl prospect:
"if it comes in and you don't bother with the risking, the prospect is potentially worth about $700 million to the company. And that is just one prospect. There are numerous other follow-on leads of the same size or greater that we would then follow up and drill at a later time."

2) Funded drilling

There are no questions about funding of drilling on Block 2B as Premier is paying for it as part of their $30.5 million farm in deal struck in October. Management is considering its options for funding 20% of the cost of drilling on Block 1, which include a further farm down of either block or a capital raise. Given the farm down of block 2B crystallized a gross farm down value on block 2B of $55 million, we argue the former option would be the route they take.

3) Prolific acreage

Kenya is the new hot spot of world exploration. Since mid-2012 there have been five oil discoveries in the Lokichar basin, one light oil or condensate discovery in the Anza basin and commerciality thresholds have been reached by the Tullow and Africa oil partnership. Some are concerned that there have not been many discoveries outside the Lokichar, but when you look at the evidence, coupled with the scarcity of wells that have been drilled to date, then either the Anza Basin (block 2B) or the Mandera Basin (block 1) which are owned by Taipan Resources, could yet yield many big oil discoveries. Taipan has mentioned there is an updated Sproule report coming out on block 2B soon, but let's for now take a look at what Sproule were saying about Taipan's blocks in June 2012. (The report is about 60 pages long and is available to all on SEDAR. Note that this report was updated before all the Lokichar discoveries were made in the upper and lower tertiary.)

Extracts from the Sproule Report:

Block 2B:
•Sproule identified 17 leads on block 2B, with the top four leads showing 36-40% geological chance of success.
•Mean gross prospective resource on Block 2B was 387 million barrels without allowing anything for the tertiary layers, where the Lokichar discoveries are now coming from.
•The South Anza Basin (block 2B)has the thickest sedimentary section in the Anza basin.
•The only previous well on block 2B, 'Hothori-1' (drilled 1989) had gas shows in the lower tertiary and upper cretaceous and fluorescence in sandstone cuttings "suggested the presence of liquid hydrocarbons" and Sproule's interpretation was that "the well did not penetrate the crest of the anticlinal structure."
•Hothori-1 also penetrated a thick lower Cretaceous shale which is a good potential source rock.


Block 1:
•Potential source rock coming from the 400-700 meter thick Egal Shale, which they say is a potential source rock for the Calub field in the Ogaden basin just north of Block 1 in Ethiopia.
•Another important source possibility is the Upper Jurassic as elsewhere in Kenya the "Mtomkuu formation" is very shaly and could be a potential source rock.
•Tarbaj oil seep, "appears to be an up-dip subcrop of an easterly plunging structural nose." (the Khorof prospect mapped by Afren is East of this oil seep)
•Oil filled fractures in Murri Formation have been documented from an outcrop east of Tarbaj.

The Sproule report discussed the history of exploration in Kenya, showing only eight wells had actually been drilled in the Anza Basin (which has an area the size of Texas) in the 1970's and 1980's by a group of companies led by Amoco and Total. Six of them were in the north Anza basin while Anza-1 and Hothori-1 were in the south. However for Anza-1 (which had gas shows and good porosity), Sproule says no closure was evident.

While fluorescence indicated oil presence in Hothori-1, Sproule says the crest of the anticlinal structure was not penetrated according to their interpretation. So not only is there a scarcity of wells in the Anza basin, but the limitations of seismic and drilling techniques at the time seem to have handicapped the explorers in their endeavours. In April 2013, BGP (Bureau of Geophysical Prospecting of China) shot the highest ever resolution (560-fold) 2D seismic in Kenya on behalf of Taipan, shooting 800kms on block 2B. The seismic was good enough to secure the farm in of Premier oil and Max Birley confirmed that there were a number of other technically approved farm ins by other companies' exploration teams. Meanwhile on Block 1 Afren have shot 1900kms of seismic and interpretation is ongoing but their latest prospect seems to be the big structure east of the tarbaj oil seep shown on page 46 of their half-yearly presentation (and page 12 of Taipan's). They call the result of the new seismic "an exciting new inventory" from an "under-explored basin."

We wrote to Max Birley and asked him about the Sproule report in 2012, Sproule's 2012 view on the tertiary in block 2B, the prospects for oil in the tertiary and the source rock that might feed it. He gave us the following reply:


"All the evidence points to Block 2B having been at the centre of a continental depression/rift dominated by lacustrine and fluvial deposition throughout much, if not all of the Tertiary. Sproule's 2012 assertions on the prospectively of the Tertiary section fail to take into account the distribution of well data in the reconstructed palaeo-environment. Wells tend to be drilled on the basin margins, where sections are likely to be sand-dominated and will not reflect the geology in the basin centers. In the numerous discoveries made along the margins of the Albert Basin, in a similar depositional setting, relatively thin shales form effective seals to sizeable oil columns in a sand-dominated section on the basin margin. The source rock responsible for the generation of several billion barrels of oil has yet to be convincingly identified. With respect to Block 2B, the chief risk and unknown variable is the presence of potential lacustrine source rocks in the Tertiary section, but there is no reason to believe that they will not be present. There is strong evidence for marine source rocks in the Cretaceous section, but these may be mature for gas at the present time, although this is not a given. With respect to the Pearl Prospect we can infer from the seismic data that both seal and source horizons are likely to be present within the Tertiary section. The prospect is not dependent on the bounding fault as a four-way dip closure exists."



Risks to the Investment

Dry wells - The main risk for Taipan is that they hit dry wells in their Quarter 3 2014 drilling program which would result in a big decrease in share price although this article emphasizes the potential for the "Pre-Drilling" share price appreciation.

Geopolitical - Geopolitical tensions are also a concern although the Kenyan authorities have proved capable to date in dealing with disputes, especially in Turkana where five discoveries have been made to date.

Equity dilution (for fund raising) - There is also a risk of dilution if the company chooses to raise additional funds on the capital markets through an equity issue, rather than opt for the further farm down route.

These risks and others are also covered in the first article.

Conclusion

There are many hoops a "minnow sized" small cap resource stock must jump through to get to that fateful drilling day, such as raising money in an unforgiving market, going through painstakingly detailed farm out processes and all the while managing in-country operations on their blocks. However when the chance of a big drilling event becomes certain with big partners in the eyes of institutional investors, the market begins to price in part or all of the Risked NPV for the prospect which was calculated at $165 million (or about 7 times the value of the current share price).

The current "Pre-Drill Multi-Bagging Hypothesis" price-in time horizon seems to be about six months, and uniquely, Taipan Resources has two of those dates with destiny, both beginning in Q3 2014, which at time of writing is just six months away. The idea of the Pre-drilling multi-bagging hypothesis is that an investor can make a multiple return on his capital if he invests in a company that meets the three criteria, and watch their investment rise in the six months prior to drilling. With a Risked NPV of $135 million for the Pearl prospect on block 2B and $30 million for the Khorof prospect on block 1, a fully priced-in risked NPV by drilling date would mean a share price of $1.93 which is a potential multi-bagging of seven times today's share price, with no drilling risk.

Of course, we are not claiming that this kind of share price appreciation will occur but have provided examples where very significant pre-drill share price appreciation did occur so the purpose of the article was to broaden the horizons of the reader base that Taipan is poised for a potential significant increase in its share price if what happened to the peer examples happens to them.