Sanchez Energy Drills More Wells In Eagle Ford Shale

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In order to get quantity, sometimes you need to focus on quality.

That's exactly what the small-cap oil and gas producer Sanchez Energy has been doing. Its main focus is the prolific Eagle Ford Shale in South Texas.

Houston-basedSanchez ( SN ) has been drilling wells since 1972, but only went public in December 2011. Its effort to pursue high-quality acreage with high-producing wells has paid off. Sanchez has the largest presence in the Eagle Ford Shale among the public companies operating there.

"All acreage in the Eagle Ford Shale is not created equal," said Adam Michael, an analyst at Miller Tabak.

"The Eagle Ford Shale has different regions. Some parts of it are more oily, some parts are all gas and some parts are liquids-rich (natural gas liquids such as propane and butane)," he explained. "But Sanchez has most of their acreage in the oil window. They have more acreage per unit of market capitalization than any other company out there. And they also happen to have very good acreage. They've been drilling some of the best wells in the Eagle Ford."

Sanchez has about 94,000 acres in the region with 49 producing wells. Its three primary project areas are Marquis, Palmetto and Maverick.

Drill Locations

It has identified more than 1,000 drilling locations in the region, based on a 80- to 120-acre spacing between wells. But the company is also planning to downspace, which means drill wells closer together. It is moving toward 50 acres between wells. This will allow it to drill more wells in the Marquis and Palmetto areas.

The largest and most important area from an outlook point of view is the Marquis. "They've drilled about half-a-dozen wells in the Marquis. The wells look really good, but there is a lot of running room because they have 50,000 acres in the Marquis. If they can prove that most of those acres are also going to be good wells, then there is over a decade of drilling locations. Then, they can just drill forever," said Michael.

Currently, the Marquis wells produce at or above 1,000 BOE, or barrels of oil equivalent, per day.

In Palmetto, Sanchez operates on 10,000 acres in a 50/50 joint venture withMarathon Oil ( MRO ). The company has 25 proved developed producing, or PDP, wells there. It expects completion of four more.

"Their Palmetto acreage is located in a very attractive neighborhood in Gonzales County, which is an area that has historically enjoyed some of the highest initial production rates in the play," said Stephen Shepherd, analyst at Simmons & Co. International.

Production rates have been as high as 1,500 BOE per day.

"The Palmetto is going to be accelerating because they are drilling with more rigs, they're drilling more wells and they are going to actually add a third rig, so they'll be drilling three times as many wells as they were at the beginning of the year," said Michael.

Sanchez also expanded its central facility in Palmetto for a total capacity of 20,000 barrels per day. It now has access to an oil pipeline, giving it the connection to the Marshall sales point. As a result, it expects to save $3 per barrel in transportation costs and have fewer transport disruptions.

This facility expansion came on the heels of some capacity issues the company experienced in Palmetto in 2012.

"It's 80% to 85% oil, and there were oil-loading capacity issues in the field," said Ronald Mills, an analyst at Johnson Rice. "They were only able to load so many oil trucks a day."

Sanchez recently acquired operated assets with working interests in 43,000 acres, called Cotulla, fromHess ( HES ) for $265 million. This gives it access to 13.4 million BOE of proved reserves and a current production of 4,500 BOE per day from 50 wells.

The advantage of the Cotulla acquisition is that the company added developed acreage to its portfolio, as opposed to the raw land it had in other areas.

"When it's developed, by nature it does come with production and therefore cash flows," said Mills. "Developed reserves are 'bankable' from a commercial lending standpoint. So it really helps from a liquidity standpoint.

"The acquisition basically fast-forwarded the company by about 18 months in terms of getting them to that level, vs. if they would have done that by drilling organically on its legacy position."

That said, Sanchez will not be growing the production in Cotulla, but instead it will just maintain the existing production.

"Those properties are self-funding, in the sense that the current production from the Hess properties is funding that level of activity," noted Mills. "It (Cotulla acquisition) added critical mass and scale to the company in doing it with a more developed asset base."

Smart Acquisitions

Analysts expect Sanchez to make smart acquisitions in terms of getting assets at a really good price such as the Cotulla transaction. But their primary focus should remain on the Eagle Ford Shale.

The company recently hired Joseph DeDominic as its newly appointed chief operating officer. DeDominic has over 24 years of experience in the oil and gas industry, and most recently atOccidental Petroleum ( OXY ) for the past 12 years.

He built a business unit at Occidental from a nonoperating unit to an operating one, noted Mills. "He has brought a lot of these processes down to Sanchez, and it has really helped them from an operational and management standpoint.

"The Sanchez family has been actively drilling in South Texas since 1972. They've benefited, as they've built out the Eagle Ford Shale position, from strong relationships with landowners through the 40 years of drilling. And that is something that not everybody has."



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Investing Ideas

Referenced Stocks: HES , MRO , OXY , SN

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