Wednesday, November 18, 2009

Devon: Onshore and More

As I was reading through Devon Energy’s third quarter results, I saw splashed across the news that the company planned to “strategically reposition” itself as a “high-growth, onshore North American exploration and production company.” Zoikes. To achieve this goal, Devon plans to sell its Gulf of Mexico and foreign properties, most of which are offshore.

The rationale is fairly simple. Offshore exploration is a high risk-high reward proposition that requires loads of capital committed years in advance. Building production platforms, leasing drilling equipment, building pipelines, supporting a mini offshore village takes serious cash. But there are no guarantees of hitting a monster well to reward this risk. Now that onshore shale drilling has become economically viable (largely thanks to Devon/Mitchell Energy’s work in the Barnett Shale), gas production companies can build their reserves onshore in a lower relative risk environment. The downside is that it also dooms the company to having to sell gas into an oversupplied, price-depressed domestic market. At least with foreign projects, the company would not be limited to the North American price environment. Perhaps Devon is making a big visible wager on a brighter future for gas consumption in North America.

Management stated in interviews that they didn’t feel the market appropriately valued the offshore and international assets. Will Devon be the last company to recalibrate its business plan and slide down the risk-reward continuum to concentrate on shale gas? I don’t know. Not too many big shale independent producers have international interests. Anadarko comes to mind, but they hardly dabble internationally.

Devon also made news earlier this month with the announcement of its Kardell GU #1 well in San Augustine Co. Texas, which had a sporty 24 hour initial production rate of 30.7 MMcf/day. The well was running at a 37/64” choke (to get out the remaining frac fluid, the company said) and had a flowing casing pressure of 6,800 psi. The company noted in its conference call that the well is about 2,000 feet deeper than Carthage area wells and is more highly pressurized. The well is operated by Devon, which has a 48% working interest. The big well is stirring lots of interest in San Augustine Co., as one might expect.

The Kardell well is in the southern part of Devon’s 570,000 net acres. Much of this land is held by production, but looking at the map below, a lot of the Louisiana property is north of the Shreveport-Bossier area, so the 570K acreage number might not be that impressive. The company has been testing land in its acreage around Carthage over the past year, drilling eight wells. The company noted the Jernigan A 4H well in Panola Co. that had an 8.0 MMcf/day IP rate. Devon is shifting its attention to the south where it has approximately 47,000 acres not HBP in San Augustine and Sabine Counties, TX and Sabine Parish, LA. The company estimates that it will have to drill 105 wells over the next two years to hold these leases. The Kardell well was drilled as part of this effort, so I’d imagine that Devon will follow through with these 105 wells.

The company plans to operate five Haynesville rigs in 2010 and participate in other non-operated wells on its acreage. In terms of estimated ultimate recoveries, Devon thinks the Carthage area is good for 5-6 Bcfe EUR. It doesn’t have enough information about the southern part of the play to make a good estimate, although it thinks the Kardell well will be a 6 Bcfe well.

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