Wednesday, September 23, 2009

Exco Resources: Analyst Day

Exco Resources is holding its "Analyst Day" today. For nerds like me, it's really cool. For everyone else in the world: yawn! Anyway, below are some of the things I judged relevant to the Haynesville Shale.


In its introductory remarks, the company commented on the expected "LNG Tsunami," noting that it has not materialized. The reasons they cite: 1) recovering economies in Asia, specifically China and India, are increasing LNG demand, and 2) increased demand from Europe, which is seeing less natural gas from Russia. Exco notes that nearly all LNG produced in 2010-11 is already contracted (although that doesn't count the "monster" projects coming out of Australia in a few years). The company also noted that the U.S. is the only country in the world to price natural gas independent of crude oil. Presumably that leads to lower prices in the U.S., making it a less desirable market. This is good news for domestically produced natgas.

The company also noted in its intro that the abundance of North American shale gas provides greater visibility to future supplies and output, which should promote greater consumption. This stability of supply argument is one I'd like to see promoted in the industry's lobbying efforts, but I guess the first step is getting people to tune in to natural gas at all.

Exco as a company has shifted its strategy from one of growing by acquisition to one of organic growth with an intense focus on shale gas. The joint venture deal with BG Group for production and midstream assets allows Exco greater flexibility because it now has a smaller debt load and lower projected capital expenditures. It's ownership of the resources produced went down significantly with the deal, but so did the company's risk. That's a fair trade in the investment world.

Exco currently runs 12 rigs in the Haynesville Play (7 operated, 5 non-operated) but is planning to add another seven operated rigs in the next few months for a total of 19. All of these rigs are leased from third parties. Because of the rig count has dropped by more than half over the past year, short term lease day rates actually are running considerably lower than long term lease rates ($13-15K/day vs. $23.5-24.5K).

Well costs are continuing to come down. Exco was running $13 million/well in Q1 2009 but is down to $9 million in Q3 2009. The company expects that number to drop to $8 million per well going forward. The capex cost breakdown is approximately 50/50 between drilling and completion with completion stimulation (33%) being the costliest component. As the breakdown below shows, stimulation costs have actually come down 55% since Exco drilled its first well.


One of the main drivers behind cost savings is shortening the drill time since many cost components are on day rates (rig, labor, etc.).  So far, Exco has been able to reduce drilling days fairly significantly, as the graph below indicates.


In terms of results, Exco is doing quite well. The company has many of the top producing wells on an initial production basis and recently had one clock in at 30.1 MMcf/day IP.  The chart below shows cumulative production from the first 15 wells.  You will note one well that is less than ten months old has already produced around 2.75 Bcf. 



The chart below shows why producers are so excited about the Haynesville Shale.  The midpoint line (green) shows cumulative revenue generated based on a $5/Mcf price of natural gas.  Based on the company's estimates, after two years of production, a 20 MMcf/day IP well (a big 'un, grant you) would produce $22 million of revenue.  Subtract royalties of about 20% (based on wellhead prices) and a capital expenditure of around $9 million and you've got a great return on investment.  Stamp out a handful of these and you are minting money.  These big wells return their investments so quickly that it creates a huge incentive to drill a lot of wells in a short period of time.



The following two IRR (internal rate of return) charts show the magic.  (Again, keep in mind that the illustrations below show very successful wells in terms of initial production.)  The first shows a 20 MMcf/day IP well and the second a 15 MMcf/day IP well.  Exco targets a 20% IRR, and it only takes a selling price of around $3.15/Mcf at an $8.5 million well cost to hit 20%.  At $4.75/Mcf for the same capex, the IRR for a 20 MMcf/day IP well jumps exponentially to 100%.  Compare these to traditional Cotton Valley wells where the producers struggle to squeeze out a 20% return with prices between $5.50 and $7.00.  These  Haynesville returns are huge!





Exco also published its current production curves, and they showed decline rates that were not as steep as originally predicted.  Unfortunately all of the inputs, especially EUR, were not in the presentation.  Of course the IP rates they are seeing are more than double the rates they expected, so that's nice.



In case the Haynesville Shale were not enough, Exco is starting to develop plans for the Mid-Bossier Shale, the formation above the Haynesville.  As the slide below shows, it appears to be a thicker deposit but it might not be as rich as Haynesville. 



Drilling water, both coming and going, was also addressed.  In terms of source water, Exco is pursuing multiple avenues, including produced water from Cotton Valley, industrial waste water and recycled water.  In terms of water disposal, Exco is building a water gathering system with a 30 mile pipe for transportation to a disposal field, as shown below.



Pipeline capacity was another issue addressed in the presentation. Takeaway capacity is a vital component of Exco's ambitious plans.  The map below shows the web of takeaway infrastructure in the area.  The lines that are shaded and labeled TGG or Talco are Exco/BG lines.  The dashed lines (red, blue and green) are the proposed expansions to Exco/BG transportation lines.


The two slides below show more detail on how the transport lines interconnect and show expansions to the gathering capacity for the company.





I apologize for the lengthy post, but there was a lot of information covered.  The bottom line is that Exco is positioned to continue to invest lots of resources in the Haynesville Shale.  Strategically, the Haynesville Play has become the company's centerpiece project, so expect to hear a lot more about Exco in the future.

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