saturday china musings...

Some musings on China...

Firstly, there appears to be some contention regarding 1P or 2P, with the company's use of the word "most likely"...I was not sure of people's reference to this as 1P, so did some digging which has satisfied me that this is in fact referring to 2P reserves.

From a recent industry newsletter...

The P50 measure is equivalent to ‘Proved and Probable’ (or ‘2P’) and is a ‘most likely’ estimate of the size of the reserve.

This makes sense to me, as it is industry practice to quote 2P unless otherwise stated!

So, with some 750 billion feet recoverable at Liu Lin (150b net to MPO), we are clearly looking at a significant drilling program to get at all the gas!

Recoverability of gas per well is obviously a key factor for profitability...less wells with higher recoverability is an obvious goal.

In determining the likely recoverability factor per well, I have researched a few other CBM producers, which seem to indicate 5bcf recoverable gas for a vertical well of average intersection width is not uncommon (although low flow rates)...of course with varying porosities, gas content, pressures, etc, these have to be viewed as arbitrary numbers!

Anyway, so with an assumed 5bcf recoverable per vertical well, we may be looking at more like 15bcf recoverable per horizontal well? This fits in with MPO's recent statement...

"Horizontal well-based development methods already employed by Molopo and other operators in Australia and now being introduced to China, can be expected to recover some 50% to 70% of the GIP or approximately 0.6-0.9Tscf, which is triple previous Molopo expectations."

So...assuming say 15bcf recoverable per well and a field size of 750bcf recoverable, we are looking at a total of some 50 wells?

Sounds like a lot...but given each well will be shallow (just 500m?), even employing the more expensive horizontal drilling methods should see each well drilled and completed for say $2.5m...perhaps with an additional $500K per well for connection back to a central gas processing plant, which would cover piping and each well’s individual share of the infrastructure costs?

So...at say $3m sunk costs per well, we are looking at a total spend of some $150m to get the field to full production....of which, MPO needs to come up with $30m.

They currently have $18m cash, although admittedly other things to spend it on beyond China...but it does suggest MPO should be able to meet this future cash requirement, if not from their own reserves, then from ongoing production from China itself given many wells will be in production and earning an income long before the last wells are ever drilled?

Looking at each well individually, it appears we have a sunk cost in the range of $3m (including a share of infrastructure costs), for a total return approximating 15bcf of gas.

Current China gas prices range from about US$3.00-US$4.50 (location specific)...I believe it is about US$4.00/mcf (AUD$4.80/mcf) in the Liu Lin area.

So per well income (gross) = 15,000,000,000/1000 x 4.80 = AUD$72m

With flow rates in the range of 2.5mmcf per day (horizontal wells) and we get sunk costs returned in less than 10 months and the next 20 years or so for free, although with gradually reducing flow rates after an initial stable period!

So, assuming no real drop off in flow rates for the first 5 years though...which is what the market will look at for near-term value assessment (once production starts), we are looking at a yearly income per well of close to $4.4m!

This is a gas starved region experiencing major growth in all surrounding centres, with no apparent let up in sight, so I will assume discounted cash flows will be offset almost 1 for 1 with the inevitable future gas price rises!

Therefore, MPO's share (20%) of the approximate $4m per year net income per well ($4.4-$.4m annual production costs) = $800K net

It must be remembered that ongoing costs per well are low, especially when critical mass is reached for a field of this size.

Now...lets equate that back to the share price.

At $800K annual profits per well to MPO, we are looking at an income per share here, assuming 800m shares all up (this includes additional future dilution), of .1c per share. Apply a PE of 10 and we get 1c per share per well when in production, or 1.5c per well if we use a more appropriate PE of 15 given the typical longevity of such projects.

So 10 wells should see 10c...and 50 wells should see 50c per share!

Remember…this is just for China...and we have not even considered the carbon trading impacts (credits?) that will no-doubt enter the mix in future years!

But will MPO ever get that far, or will they be taken out first?



Texaco, BHP, SGE, Chevron, Orion and Molopo...lol...did you pick the odd one out?

Orion in particular completely surrounds MPO's lease, which is one of the best in the regions, so perhaps an obvious suitor at some point...perhaps once MPO and Fortune have done all the hard work?

Anyway...I guess it all comes down to timing...how long for MPO to get 50 wells up and running...and the Liu Lin field into full production?

My guess is 5 years, with decent production kicking in within say 2 years?

As I said...this is not an overnight industry, but one that can have a tendency to creep up on you when in the hands of the right management team!

With this in mind, add the Australian assets…the USA…South Africa in particular, which could well be bigger than China...add India which is rumored to be significant...and of course potentially even more ground in China...and it is not hard to see that in say 2-5 years from now, MPO could easily be as big if not a bigger player than AOE is right now, which is a $1.1b+ company!

Such numbers would put MPO well over $1 per share...and a big smile on my face.

Buy, sell, trade, invest in MPO...whatever...but it might be a good idea to at least keep a few in the bottom draw, perhaps to be dusted off in say 5 years time...and cashed-in to buy a house or two!

Cheers