New production landscape means a structure shift for juniors
Canada’s junior oil and gas sector is going through a wrenching structural adjustment
There’s no denying it: Canada’s junior oil and gas sector is going through a wrenching structural adjustment. While the benefit of new technology has clearly allowed companies to book more reserves per wellbore, costs have also risen significantly.
Long gone are the days when an initial round of seed capital from friends, family and the management team could kick-start a junior into a robust 10-plus well program before having to look to outsiders for a further equity raise for the next stage of development capital. The starter kit for many recently launched juniors (mostly private) has been at least $100 million with a commitment for follow-on capital of at least an equal amount.
American private equity investors advise me that, as they see it, there are four significant issues that explain the lack of support for developing Canadian energy resources. These items are all structural, not cyclical, in nature.
Firstly, private equity players fear the absence of near-term meaningful export capabilities. Secondly, there’s a need for at least four of the most recent prolific U.S. basins to “roll-over” or move into a decline scenario. Thirdly, there’s a lack of top-tier management teams to develop the abundant Canadian resources using the highly technical and diverse drilling, completion and production techniques. Finally, there’s a need for the over 500 juniors in business today to consolidate to achieve better economies of scale in their operations and provide investors with a more diverse asset base from which to deploy the new technology and grow their reserves.
There are no simple answers to these problems, but we know there is progress on the first issue (at least from a Canadian perspective) given the LNG platform being developed for the West Coast and the recently announced Energy East oil pipeline project, proposed by TransCanada Corp. The timelines for these, however, could be greater than five years in the making and that is the usual monetization threshold for private equity investments.
As to the second issue, the last time I checked there did not seem to be any abatement in the reserve growth for the Eagle Ford, Haynesville, Marcellus, Permian, Williston or Bakken plays. In fact, North Dakota Bakken reserves are forecast to be producing at a rate of 1.7 million barrels of equivalent per day by 2017, up from a meager 187,000 boe/d in 2009 and attaining one million boe/d sometime in 2014.
The third issue is always up for debate around who has – or does not have – an “A” management team. It’s a perennial issue and the use of new technology and developing best-in-class reserves has always been a challenge for most firms to achieve on a consistent basis.
Finally, and probably the most contentious issue among the junior producers, is the issue of consolidation. If there needs to be mass consolidation, who will run the combined companies and where will the departed staff go to find work?
All told, the ongoing structural changes are having a more meaningful impact on the junior sector than the cyclical issues we are more accustomed to. As a result, a different approach to securing financing is likely in order. At the PLS Dealmakers Expo on October 8, several speakers informed the audience about the benefit of joint ventures, farm-ins, equity placements (private or public), mezzanine financing, publicly traded debt, go-private transactions and the like.
The financial constraints are daunting on their own. There is also the need to pay ever greater attention to the ability to get production to market (to rail or not to rail?) and managing the “bitumen bubble” or AECO differential in product pricing. I recently heard that the engineering community has developed no less than 10 “type curves” for the Viking reservoir depending upon what type of “magic elixir” or frack horsepower is applied downhole.
One thing is for sure though: we have access to a tremendous reserve base. If we can fully book the carbonate reserves, we will pass Venezuela and become the second largest basin in the world. As leaders and survivors, we are part of the most resilient industry on the planet. We will find our way through this structural shift. We always do. The size of the prize and its value for future generations is too important.