At 35p, AIM listed Nighthawk energy (HAWK) is a very interesting play on shale oil in the U.S. and with its share price currently depressed, there looks to be a strong investment case for signficant gains in 2010 driven by news flow.
The case for investment:
1. THE JOLLY RANCH PROJECT
Nighthawk owns a 50% share in the Jolly Ranch Project in Colorado (its U.S partner Running Foxes owns the remainder). Hawk owns approximately 400,000 acres in the SE part of the Denver Basin. The hope is that oil can be produced from its black organic shales.
In July 2009, Schlumberger Data and Consulting Services, completed a survey of the oil in place at Jolly on an area of 246,000 acres.
The results were highly encouraging:
P10 - 1.22 billion barrels
P50 (most likely oil in place) - 1.46 billion barrels
P90 - 1.742 billion barrels
Schlumberger concluded that " the regional continuity of the formations was such that the resources in place were likely to be laterally continuous across the total acreage".
Hawk's efforts to date has been focused on proving the reserves in place and recovery rates using a combination of traditional vertical wells and a newer technique known as Lateral or horizontal Drilling. During the second half of 2009, it has been shown that oil recovery has been economic from several of these wells e.g. Craig 4-4, 65 barrels per day.
What is horizontal drilling?
The use of horizontal drilling technology in oil exploration, development, and production operations has grown rapidly over the past 10 years. Horizontal drilling technology achieved commercial viability during the late 1980’s and It has been used successfully particularly in the Bakken Shale of North Dakota and the Austin Chalk of Texas, Of the three major
categories of horizontal drilling, short-, medium-, and long-radius, the medium-radius well has been most widely used and productive. Achievable horizontal bore hole length grew rapidly as familiarity with thetechnique increased; horizontal displacements have now been extended to over 8,000 feet. The technical objective of horizontal drilling is to expose significantly more reservoir rock to the well bore surface than can be achieved via drilling of a conventional vertical well. Significant successes include many horizontal wells drilled into the fractured Austin Chalk of Texas’ Giddings Field, which have produced at 2.5 to 7 times the rate of vertical wells, wells drilled into North Dakota’s Bakken Shale, from which horizontal oilproduction increased from nothing in 1986 to account for 10 percent of the State’s 1991 production, and wells drilled into Alaska’s North Slope fields.
Comparisons to the Bakken field
The Bakken Formation, occupying about 200,000 square miles (520,000 km2) of the subsurface of the Williston Basin, covering parts of Montana, North Dakota, and Saskatchewan.
There are significant reservoirs of oil in the Bakken shale. Oil was first discovered in the Bakken in 1951, but efforts to extract it have historically met with difficulties. An April 2008 USGS report estimated the amount of technically recoverable oil in the Bakken Formation at 3.0 to 4.3 billion barrels (680,000,000 m3), with a mean of 3.65 billion.The state of North Dakota also released a report that month which estimated that there are 2.1 billion barrels (330,000,000 m3) of technically recoverable oil in the Bakken.
Geologically, Jolly Ranch is similar to the Bakken shale field which is currently the largest shale play in N. America . Because the Bakken shale has generally low porosity and low permeability, it made the oil difficult to extract and until recently recovery rates were poor and it was the advent of the new horizontal drilling techniques that has signficantly increased recovery rates. Jolly appears to have superior porosity and permeability characterisitics and this geology together with the promising early drilling results give credence to the theory that Jolly could be more productive than Bakken in the longer term.
Bakken fields have attracted strong prices per acre e.g. Jan 08 Crescent point/londex $17,000 per acre, Dec 08 Cpe/vilanum $7398 per acre, March 09 tristar/cpe $9332 per acre.
Jolly Ranch financial models based on Schlumberger anaylsis
- p10 oil in place estimates (Schlumberger July 2009)
- 10% recovery rate
- 25% cost per barrel
- $55 per barrel oil price - WTI
Estimated earnings for the life of the project are $2.35 billion, which equates to lifetime earnings per share of $72 (£45).
2. Financial health
In August 2009, Nighthawk raised US$37 million (£22.4 million) at 35 pence per share via an institutional placing. Cash balances of 30th June 2009 were $6 million. At the AGM in November, David Bramhill (MD) stated that if oil stayed close to the current $75/barrel level, the company would continue to be cash flow positive and as production ramps up (expected to be 700-800 BPD by end 2009), cash flow would continue to improve. Nighthawk is currently debt free and the board is clearly of the opinion that equity is advantageous to bank debt. It is unlikely that a further placing of shares will be necessary until the end of 2010 and the financial position is helped because Running Foxes contribute 50% towards all costs as well as sharing 50% of all revenues.
3. Other prospects.
As well as Jolly Ranch, Hawk also has an interest in the Revere prospect. This is a 40,000 acre waterflood project and is located on or around the State border between Kansas and Missouri. It is comprised of the Devon Oilfield (80% interest), Buchanan, Worden and Xenia projects (50% interest).
The reservoir is underpressurised, therefore it is not possible for oil to reach the surface without water injection which displaces the oil in the well. This is a well used technique called Waterflooding.
Initial gas production from Xenia is expected to be 500,000 cu ft per day plus oil. In addition the P50 (most likely) of the Devon, Buchanan and Worden sections of Revere has been calculated to be 210.5 million barrels. This is expected to increase as further deveopment occurs.
Nighthawk also own interests in smaller projects, Cisco Springs (50% owned) and the Cliffs shale gas project (80% owned).
4. Attractive share price below 40p
Nighthawk's current share price of 35p, gives it a market capitalisation of £116 million (329,639,480 ordinary shares). This is equivalent to the institutional placing price of 35p which occurred in August 09. The 52 week share price range is 22p to 59p (the 59p coinciding with the release of the Schlumberger data in July 2009).
At the November AGM, David Bramhill (MD) stated that the share had been depressed by some institutional selling and this stock overhang as well as short term profit taking by private investors has moved Hawk's price down from the mid 45p range prior to the AGM to the current 35p. Certainly the news from the 2009 AGM that the company was producing only 250 BPD compared with an expectation of closer to 2000 BPD declared at the 2008 AGM made investors feel that this was "jam tomorrow" story and drove a lot of shorter term speculators out. Production expected at the end of 2009 is closer to 850 BPD. However, investors should buy Hawk as a "production proving" play not a producer with an expectation of signficant news in Q1 2010:
- Production updates from the Jolly Ranch wells
- Production updates from the Revere Waterfloods and Xenia gas project
5. Moderate risk profile
Although recovery rates are being proved at Jolly Ranch, the Schlumberger assessment gives confidence that there is a signficant quantity of oil contained within the shale rock. Given development in horizontal drillig technology which has been succesfully applied in the Bakken, recovery prospects are encouraging.
The fact that this is a play in the United States cannot be underestimated. Infrastructure for the transport of oil and gas is good and geopolitcal risk is low. Cost of extraction is also low relative to deep water projects in the Gulf of Mexico, the Falkland Islands or Santos basin off Brazil.
6. Listing of ADR's on U.S. Market
Nighthawk was listed as a level 1 American Depository Receipt in November 2009 giving U.S. investors easier access to purchasing shares.
7. No sale of stock options by directors
It should be noted that the following options for Directors of the company vested on the following dates:
The directors have not yet exercised these options at current share price levels. Though no directors have purchased, it gives confidence that the directors have not taken early profits.
8. Rumours of takeover
There have been some rumours of a bid for Nighthawk circulating. None of these have been confirmed but they may add spice to the share price. Competitors have been buying up land around Jolly Ranch so it is not inconceivable that a buyout may occur, but probably later in 2010 or 2011.
Although recovery rates are being proved at Jolly Ranch, the Schlumberger assessment gives confidence that there is a signficant quantity of oil contained within the shale rock. Given development in horizontal drillig technology which has been succesfully applied in the Bakken, recovery prospects are encouraging.
The fact that this is a play in the United States cannot be underestimated. Infrastructure for the transport of oil and gas is good and geopolitcal risk is low. Cost of extraction is also low relative to deep water projects in the Gulf of Mexico, the Falkland Islands or Santos basin off Brazil.
6. Listing of ADR's on U.S. Market
Nighthawk was listed as a level 1 American Depository Receipt in November 2009 giving U.S. investors easier access to purchasing shares.
7. No sale of stock options by directors
It should be noted that the following options for Directors of the company vested on the following dates:
- 4,500,000 shares , exercise price 7p, earliest vest date 15/8/09
- 500,000 shares, exercise price 7p, earliest vest date 25/9/09
- 500,000 shares, exercise price 12p, earliest vest date 11/12/09
- 1,250,000 shares, exercise price 53p, earliest vest date 1/11/07
The directors have not yet exercised these options at current share price levels. Though no directors have purchased, it gives confidence that the directors have not taken early profits.
8. Rumours of takeover
There have been some rumours of a bid for Nighthawk circulating. None of these have been confirmed but they may add spice to the share price. Competitors have been buying up land around Jolly Ranch so it is not inconceivable that a buyout may occur, but probably later in 2010 or 2011.
