Kevin Shaw: Carpe Cardium, Kurdistan & the North
Source: Brian Sylvester of
Wellington West Analyst Kevin Shaw lives in Alberta and
believes there are few better places to invest than Canada's oil-
and gas-rich provinces. But he also sees attractive international
opportunities in such places as Kurdistan, the North Sea and
Albania. "When you're putting a drill bit into the ground in
Kurdistan," he says, "you're. . .'deep-sea fishing.'" In this
exclusive interview with
The Energy Report,
Kevin explains why he's also big on the Cardium, Notikewin,
Bakken/Three Forks and the Montney shale plays.
The Energy Report:
Last week, the government of Alberta announced that it will reduce
oil and gas royalty rates in the province to make them more
competitive. You're based in Calgary. What impact will this have on
the industry and the oil sands in particular?
For Alberta's oil and gas industry, it's an overall positive move.
For the last couple of years, we've been competing in the oil patch
against some of our neighbors like Saskatchewan and BC. In Alberta,
the regulations were changing every 6-12 months; Alberta didn't
have a long-term vision. As a result, small to major companies in
the oil patch were pushing their dollars into places that had more
attractive fiscal regimes like Saskatchewan and northern BC. Now
the government of Alberta has a long-term vision; it has reduced
royalty rates and put incentives into some really, attractive
technologies on which the industry is focused.
What sort of technologies?
Areas of application like horizontal drilling techniques into more
mature oil and gas basins where it's really a recovery-type game to
exploit more oil and gas. The government has hit the right spots;
it's also stated that nothing will change for three years, so we've
got a longer-term vision for our royalty structure, which is what
investors, the markets. . .everyone wants to see.
What's the new royalty rate?
There is now a competitive 5% royalty incentive rate in the first
12 months that could extend up to 40+ months, depending on what
types of targets are being drilled for oil or gas. Out of the gate,
the 5% royalty rate will benefit all Alberta producers. There are a
lot of drilling and horizontal resource-play incentives that, in
some of the deep shale plays or even the shallower horizontal
plays, can be upwards of $1 million per well. That's an incentive
for the industry to increase activity in horizontal developments or
go after some of the deeper targets-especially targets greater than
2,000 meters below surface. I believe this will bring more focus
onto some of the well-known Alberta plays.
What are some of those plays?
The Cardium. It's is a major emerging oil-resource play in Canada.
It has companies like
PetroBakken Energy Ltd. (
Daylight Energy Ltd. (
ARC Resources Ltd. (TSX:ARX; UN:AET)
, which are really ramping up and spending significant amounts of
cash in the play this year and next. Other emerging mid-caps like
Bellatrix Exploration Ltd. (
Equal Energy Ltd. (TSX:EQU; NYSE:EQU)
, two companies that I cover, and even smaller exploration and
production (E&P) companies like
Midway Energy Ltd. (
WestFire Energy Ltd. (
, which I also cover. These companies are going to benefit from the
revised royalty regime, especially as horizontal wells extend out
deeper into the plays.
Operators big and small are drilling longer, horizontal lateral
legs and putting a higher density of fracks into plays like the
Cardium or Viking Oil resource plays. Other key ones currently
include the Montney and Notikewin gas resource plays, which are big
in Alberta and in northeastern BC.
One of the companies I cover that has a huge acreage position in
the Montney gas play is
Painted Pony Petroleum Ltd. (TSX.V:PPY.A)
. They're surrounded by
Progress Energy Resources Corp. (
Husky Energy Inc. (
Talisman Energy Inc. (TSX:TLM; NYSE:TLM)
Royal Dutch Shell plc (NYSE:RDS-B)
. Those companies are developing huge reserves in the Montney right
in the same neighborhood as Painted Pony, which currently holds
~126 net sections in the heart of the fairway.
To gain exposure to the liquids-rich Notikewin, we believe one
of the best companies to own is Bellatrix, which is drilling
horizontals that test 10+ mmcf/d with 40 bbl/mmcf liquids (mostly
condensate) and receive up to ~$1 million per horizontal in Alberta
You mentioned companies like Midway and Bellatrix. Has the new
royalty legislation caused you to re-evaluate some the companies
You definitely look at who can benefit from it. Without getting
into a lot of details, these types of royalty incentives in Alberta
allow you to drill two or three wells and get almost a third or
fourth for free. On a deeper well, you can now get over $1 million
in incentives. If you drill three wells, you get $3 million. In a
lot of these plays, you can drill a well for $3 million or less.
The point is oil and gas companies in Alberta will be able to ramp
up their drilling programs with the same capital budget as before
but drill incrementally more wells.
If there's more drilling, it stands to reason that some of the
drilling companies are good investments.
No question about it. Drillers are definitely going to get busier
as activity levels increase. Because of heightened activity levels
for horizontal drilling and multi-stage fracks, there's a long wait
time to get wells fracture-stimulated because frack equipment is
becoming very scarce. It's running around the clock. There's not
enough equipment on either side of the border on some of the
horizontal plays, which can delay operations in some cases. Frack
equipment is becoming a hot commodity. If commodity prices,
especially oil, continue to move further or stay in the current
range-call it $60-$85-we're going to be very busy as an industry in
a lot of these multi-stage frack, horizontal-resource plays. As
that happens, we expect that the frack companies are going to be
very good investments going forward.
Any specific names?
Trican Well Service Ltd. (
Calfrac Well Services Ltd. (
is another one. I don't cover the services as an analyst but those
are two. There are lots of other companies, like
Schlumberger Ltd. (
Canyon Services Group Inc. (
-another player that's evolving in the energy services space. It
would be one to watch as a smaller entity in the frack
In the U.S., the Obama administration ordered a moratorium on
offshore oil and gas drilling as a result of the Gulf of Mexico (
) oil spill. What's Wellington's take of what's happening in the
Overall, it's a tragedy. For the next six months, obviously, the
drilling permits have been stopped for the deeper drilling.
Approximately 33 deepwater drilling permits were suspended for the
next six months, and no further licenses will be issued until the
cause of the explosion is known in more detail. My numbers say
approximately 9% of U.S. oil production and about 3% of U.S. gas
production comes from the deepwater drilling in the GOM. If you
look at shallow drilling, the numbers are closer to 30% U.S. oil
and 11% gas. Obviously, stopping deepwater drilling for six months
will have an impact.
Do you see an outright ban?
No, I don't. Let's face it, offshore development for the energy
industry is very important to the global supply and demand picture.
Thousands and thousands of offshore well operations have been
executed safely and efficiently. Quite honestly, the industry does
a very good job of putting the right procedures in place and
operates many safely run operations.
What do you recommend investors do with offshore plays in the
If people, who are currently invest only in GOM-based companies,
want to have a portion of their portfolio in the offshore space,
there are other places they can direct their money over the next
6-12 months while the GOM gets sorted out and back up and
Where are those places?
There's an awful lot of activity going on in UK's North Sea.
Companies like Talisman and
Nexen Inc. (TSX:NXY; NYSE:NXY)
, which are starting to ramp up activity there; and even smaller
caps I cover that are growing steadily into the mid-cap space, in
terms of overall asset base, like
Ithaca Energy Inc. (
Sterling Resources Ltd. (TSX.V:SLG)
Ithaca is manufacturing oil in the North Sea and has steadily
delivered results over the past 12 months, increasing oil
production and boosting 2P reserves. And Sterling just started a
six-well offshore drilling program with five of those in the North
Sea targeting shallow depths (i.e., relatively simplistic
operations, yet high impact oil and gas prospects).
There's offshore in Brazil and lots of other places around the
world where you can direct money to the offshore side of the
business. Many people in the investment world like the offshore
space, given it provides exposure to big reserve targets per well
and material changes in a stock's market performance overnight.
A recent Wellington West investment presentation deemed Kurdistan
"the world's hottest exploration region." Please explain.
Kurdistan has what we would call "mega play" potential. There
aren't too many multi-billion barrel areas that have been
under-exploited or under-explored. Kurdistan is one of those
regions because it hasn't been open for business to oil and gas
nations or entities under the different government regimes of the
last 20 years. There's huge hydrocarbon potential there, contained
within huge seismic structures. That's the attraction to Kurdistan.
You've seen companies like
Heritage Oil Corp. (
Gulf Keystone Petroleum Ltd. (
United States Short Oil Fund (
and others positioning in Kurdistan, as well as the smaller
Vast Exploration Inc. (TSX.V:VST)
Longford Energy (TSX.V:LFD)
Range Energy Resources Inc. (TSX.V:RGO)
and others that are trying to tie up land positions as more and
more management teams see the big rewards if you drill into one of
these mega, multi-billion barrel discoveries. The discoveries are
so big-it is one of the only places in the world you can still get
truly "BIG" oil in place.
What's the risk?
The risk with Kurdistan continues to be the geopolitical
environment between Baghdad and the Kurdistan regional government.
At the end of the day, you've got over 35 international oil and gas
companies in the area. Many governments around the world are trying
to work with Baghdad and the Kurdistan regional government to
figure out a proper business "law" to move the oil and gas industry
forward. Kurdistan is definitely at a real primitive stage, in
terms of having a business system and set of regulations for
investment into the area by oil and gas companies. That's the risk
right now, but there's a huge prize for the government to resolve
this situation. I believe it will get resolved, but it may take
What are some junior E&P companies that you're following in
I cover Vast and Longford. Vast just spud a well a few weeks ago
Niko Resources Ltd. (
, a large international operator in the area. It's pretty exciting
times for Vast right now. Vast has several large structures on
their block in Kurdistan. Most of the blocks there are on trend
with some of the major producing fields, whether it's Kirkuk or Taq
Taq. When you're putting a drill bit into the ground in Kurdistan,
you're-what I call-going "deep sea fishing." You're not sure what
you're going to hit! Oil and gas has been hit over the last 12-14
months across four different horizons of interest. Whether it's in
the Tertiary, Cretaceous, Jurassic or Triassic, there's a lot of
hydrocarbon potential to change a company's stock price materially
Vast is currently drilling three large structures, all of which
could easily be 100-350 million barrels. You could hit a 1 billion+
barrels-a-day find like that which Heritage hit not long ago. Other
big players in the area that have drilled successful wells like
Addax Petroleum Ltd. (TSX.V:SLG)
, which has now sold; and Gulf Keystone, farther to the north in
the Kurdistan region, has hit some big finds. Both Vast and
Longford are run by the same management team. The Longford block is
a shallow development play that already has a number of vertical
wells that were put into the block that did produce or show oil. We
believe, Range Energy Resources is the cheapest trading stock in
the Kurdistan space, currently, and could have one of the most
attractive blocks in all of the Kurdistan region, nestled between
the Heritage discovery and the existing multi-billion barrel Taq
Congratulations on the success you've had with
Bankers Petroleum Ltd. (
, Painted Pony and
Arsenal Energy Inc. (
. Of all those companies, what are some common elements that
allowed such dramatic appreciation of their respective share
I'm a technical guy-oil and gas engineer/operations-by background.
I look for what I call a "manufacturing approach" to a lot of the
plays. I like to see legs to the story, in terms of growth in
proven and probable reserves (2P). A lot of companies in the oil
and gas industry can go out and drill a few wells and press release
some pretty big production numbers. At the end of the day, you have
to build 2P reserves to build a successful oil and gas
company-small or big. Companies like Painted Pony, Arsenal,
Bellatrix, Midway, Ithaca and Sterling are all steadily building 2P
reserves and increasing shareholder value. Many of these companies
are involved in very repeatable-type plays in the oil and gas
space. There is minimal geological risk in these plays, as the oil
or gas resource is there. It really comes down to recovery and the
application of technology for exploitation. They tie up the land,
and then use technology-horizontal drilling, multi-stage fracks,
etc.-to boost the recovery factor per well. They boost the
production rates and focus on depleting the resource per section
across their acreage in a very methodical "assembly-line"
manufacturing approach. If companies are doing that and you can see
that they've got low-risk acreage in front of them, reserve
estimators will give them credit for the reserves.
Where does the "manufacturing" come in?
If companies boost recoveries on their assets, they'll continue to
what I call "manufacture" oil or gas in the space. The Cardium
companies like Bellatrix are doing that very effectively right now.
Bakken players like Painted Pony in southeast Saskatchewan continue
to do this very effectively and have made a lot of money for
shareholders in the last few years with significant growth we
believe still ahead of them in very repeatable plays both in the
Bakken and in the Montney resource play in northeastern BC.
On our valuation, Arsenal Energy is a very undervalued
company-one of the cheapest oil stocks in the entire domestic
space. Arsenal has just recently released two very successful North
Dakota Bakken horizontal results, with these wells coming in at
over 1,000 barrels per day (bpd) gross for initial production
rates. You get big reserves from both of those wells, anywhere from
400,000-800,000 barrels in 2P reserve bookings. Arsenal's acreage
in North Dakota is very low risk, as it has a number of wells on
its property that have been drilled successfully in both the Bakken
and emerging Three Forks oil resource plays. Companies like
Continental Resources Inc. (
EOG Resources (
have been drilling up all around them and de-risked their acreage.
NuLoch Resources (TSX.V:NLR-A)
is another North Dakota Bakken and Three Forks player to watch,
with a huge acreage position (over 100 net sections) in these plays
and partnered with larger companies like
Baytex Energy Trust (
. When you have companies that have acreage in the right spot and
very definable and visible production ramps in a well-known play
wherein they have a large inventory of drill-ready locations, the
value growth going forward is present. That's why I believe a lot
of these companies have, obviously, appreciated over the last year
What are some of your strong buys among the domestics?
We've talked about a few of them already. Bellatrix is definitely a
strong buy recommendation. It has one of the premier acreage
positions in the Cardium play with 81 net sections. It is right
alongside the PetroBakkens and Daylights of the world. Bellatrix is
one of the most attractive valuations in the Cardium space compared
with its peer group. If you reverse engineer the buyout matrix of
some of the companies PetroBakken and Daylight have purchased in
the Cardium space over the last six months, you get Bellatrix
anywhere between $8 and $10 a share. It's trading just over $3
Bellatrix has a great management team. It's a sizeable
entity-over 8,000 bpd right now-and planning to exit the year at
around the 10,000-bpd mark. There are hundreds and hundreds of
locations in two great repeatable resource plays (i.e., the
Cardium), and then the very liquids-rich Notikewin play in Alberta.
These wells are drilled for about $3 million each. They test at 10+
mmcf/d and make anywhere from 30-70 barrels per million of liquids,
which is mostly all condensate. Even in a low gas price
environment, the economics in those plays are hugely supportive at
current gas prices due to the couple hundred barrels of
condensate/liquids they get with these wells.
Let's continue with the strong buys.
Arsenal is a smaller company than Bellatrix; it is producing about
2,600 bpd now, but it is very heavily weighted toward oil-more than
75% oil. The company really has three different core areas of
operation and drilling. Right now, they trade at about half of
their net asset value (
). I think they are around $0.90 on the recent broader market
pullback, and it's trading at about 0.3x its price to cash flow at
the end of this year. Arsenal is one of the best buys,
valuation-wise; its stock should be well over a dollar.
Painted Pony's current trading price is more than backed up by
what I call its Bakken oil "manufacturing" in southeastern
Saskatchewan. It's in and around $6 and has over 100 net sections
of Bakken acreage, which is over 95% undeveloped. We also believe
the company's getting next to no value in its stock price for
having one of the best acreage positions in the Montney shale play
in northeastern BC. Painted Pony is surrounded by Talisman,
Progress, Husky, Shell and others, with 126 net sections in the
Montney. Over the last few weeks, it issued a press release on a
couple of very successful Montney drill tests on its 100%-owned
land; and the company's strategically partnered with Talisman and
Progress on some bigger scale developments in the area. Painted
Pony is one to watch, especially if gas price appreciates.
Another company in the domestic space and one to watch that just
converted from a trust to a corporation is called Equal Energy. The
company generates about 9,500 barrels of oil equivalent (boepd) and
has several different resource plays in its asset portfolio. Equal
has 21+ different oil pools here in Canada; and several of the
favorites like the 'Cardium, Viking, Pemiscot and Dina light oil
plays." It's just starting to drill some of growth areas and has
already had some solid initial successes. The company, which
rebranded officially as of June, is under new management; and
management has done a great job of paying down over $150 million of
debt so far to reposition this sizeable producer as a newly
focused, emerging "mid cap." It's just coming out of the gate to
start drilling its first series of horizontal wells; so that's one
Any thoughts you'd like to leave us with?
I see lots of room for growth in the energy side of the business.
At some point, I see gas prices coming back to more of our cost
basis on the North American side, call it $6-$7. As the gas price
appreciates, you're going to see that a lot of stocks-both in the
small- and mid-cap space-have a lot of torque to them. As the
industries continue to put horizontal technology to bear, there's
going to be significant growth in the oil plays domestically and
internationally. It's a good place to be for investors-there's a
lot of money to be made both domestically and internationally with
oil prices over $60 a barrel.
Thanks so much for speaking with us today, Kevin.
Kevin Shaw has extensive industry experience, including
engineering, operations and management positions with Imperial
Oil Resources, Trimox Energy Inc. and Colt Worley Parsons. Mr.
Shaw has a B.Sc. in Mechanical Engineering with a minor in
Petroleum; and an MBA from the Haskayne School of Business at the
University of Calgary.
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