The 2nd in a series of short monthly essays
A COMPANY'S TRACK RECORD OF "SUCCESS"
(BUT, IS IT REALLY SUCCESS?)
You're thinking about investing in a company which tells you they've made oil and gas completions in
four of their last six wells, and this "track record" is why you ought to invest with them.
But how good are these wells? Three low risk
wells may have rates of 20 barrels of oil per day (bopd) and they may have cost $600,000 each to lease, drill and equip. Twenty bopd is fine. And, assuming $60.00/barrel, yields $1200 per day. But out of the $1200 must come landowner's royalty (say, 20%) and a severance tax (say, 12.5%). These subtractions bring the daily net to $810/day. If you bought in at 10%, costing you $75,000 (includes a promote to the company), you'd realize $81/day. At this
rate, it would take you two and a half years (undiscounted) to get back your original investment. And that's without your 10% share of operating costs while the well is producing.
The 4th "good" well, an exploration, higher risk well, has been completed flowing 400 bopd. This is really good…even if it cost $2
.1mm to drill and equip.
But how long has it been producing? I've seen fabulous flow rates at initial completion dwindle to nothing in a few months - or even weeks. Ask how long the well has produced and at what rate - after initial completion. The company may have gone out and beat the
bushes for more investors right after this great completion; hoping it would remain at a high flow rate.
The point of this essay is to urge potential investors to be careful about the "4 out of 6" kind of advertisement.
- A high percentage of completed wells is a good sign, but the ultimate payoff comes only with good well producing histories.
- Relatively low flow rates may come from targeted reservoirs already partly
depleted by production from pre–existing wells: The depletion history may not have been properly analyzed.
- High initial flow rates may come from reservoirs completed not far enough above their water levels: water may soon enter the flow stream diluting oil production.
Every business area has its bummers - and its better players.
Writer's note: As always, the purpose of these essays is not to cast aspersions on
the oil patch - a place this writer thinks well of. The purpose is to help potential investors weed out the less promising to get to the more promising
Let me know what you'd like to hear about.