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BP’s Permian Basin entry reminds market of site’s shale potential – bottlenecks or not (BP.,BLP,NTOG)

Oil major BP (LSE:BP.) has announced a large-scale return to the Permian Basin in Texas as part of a $10.5bn investment into its US shale business. This move, coupled with a current supply bottleneck stemming from a surge in popularity over the last decade, serves to reaffirm the real long-term potential on offer at the Permian.

BP announced this morning that it has purchased 83,000 acres with around 3,400 gross drilling locations in the liquids-rich Delaware sub-basin of the Permian boasting current production of c.40,000boepd.It said that multiple zones across the acreage will provide a ‘deep and highly-economic inventory’ for future drilling and significant opportunities for the application of its drilling techniques.

The acquisition forms part of a $10.5bn purchase from London peer BHP Billiton (LSE:BLP), which has also seen BP take on 194,000 acres in Eagle Ford, Texas, and 194,000 acres in Haynesville, Louisiana. It has bought the portfolio of assets as part of an effort to upgrade and reposition its US onshore business, with the sites adding 190,000boe/d production and 4.6bn barrels of discovered resources.

Bernard Looney, BP’s upstream chief executive, said:‘This is a major upgrade for one of BP’s key Upstream regions, giving us some of the best acreage in some of the best basins in the onshore US. I believe our dynamic, highly-efficient team will be able to unlock the full potential of these assets. This will increase our target for free cash flow from the Upstream by $1 billion, to $14-15 billion in 2021, and provide opportunities for continuing growth well into the next decade.’

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Change of heart

The move will mark BP’s first activity in the Permian Basin since it sold 405,000 acres in the area to Apache Corp $3bn in 2010, shortly after the Deepwater Horizon explosion in the Gulf of Mexico.

In the intervening years, the site has emerged as one of the most popular ways to play the ongoing US shale boom thanks to its multiple layers of underground oil-soaked shale rock stacked on top of each other. This allows companies to quickly drill multiple wells from the same spot. As a result of its attractive geology, oil production has more than tripled at the Permian over the last decade to around 3.4 million barrels of crude a day- a significant bulk of total US shale production.

Indeed, the area has become so popular in recent times that there are now too few pipelines to handle all of the oil and gas coming out of the ground- a change in fortunes that has hit shares in many producers operating in the area. Earlier this week, analysts at Wells Fargo said that this bottleneck could be a headwind for the US shale boom until as late as 2020. Likewise, BP Capital Fund Advisers has warned that Permian production could exceed available pipeline space by 300,000 to 400,000bopd by the end of this year, extending to 750,000bopd by late 2019.

As Scott Sheffield, chairman of Pioneer Natural Resources put it to Bloomberg last month: ‘Some companies will have to shut in production, some companies will move rigs away, and some companies will be able to continue growing because they have firm transportation.’

The good news is that the crunch is not expected to go on forever, with numerous new pipelines expected to be up and running by 2020- a point that led BP Capital Fund Advisers to call the market sell-off ‘overly severe and short-sighted’.

UK exposure

Over the long-term, BP’s decision to move into the Permian in spite of the current bottlenecks serves as a reminder of the real potential on offer in the region. One way for UK investors to get London-listed exposure to the Permian outside of the mega-cap arena is Nostra Terra Oil and Gas (LSE:NTOG), which we have covered many times (herehere, and here for example).

In October last year, Nostra bought a 53.3pc interest in its third 120-acre Permian lease for just $40,000. This acquisition included the Twin Well drill target and gave the company 24 drill-ready locations in the area. Handily, the operator of a neighbouring lease had mistakenly crossed the boundary into Nostra’s new acreage when drilling. This neighbour plugged and abandoned the well, but in its three days of operation, it produced 350bbls oil.

Nostra wasted no time in making the most of this, and within three months had drilled and put into production the Twin Well at the site. The Twin Well’s reported economics was a 2:1 return on investment at $40bbl oil and estimated ultimate recovery of 35,000bbls. In April 2018, Nostra announced that the Twin Well was producing an average of 58bopd, adding that it had been granted permits to drill three further Permian wells. Due to the Twin Well’s success, Nostra decided to speed up development in the Permian and spudded the first of two back-to-back wells there in May 2018, targeting 25-40bopd production.

Nostra’s ability to drill and reach production so quickly comes courtesy of its Held-By-Production (HBP) strategy. HBP means output at leases stops them from expiring, even if it is only generating a handful of barrels each day. The licensing method allowed Nostra to buy production acreage at a low-cost, which it then could develop at its own pace when conditions were right, and the company has sufficient funds. The ability to grow as quickly or as slowly as needed also offers Nostra some protection from the current supply bottlenecks.

With Nostra’s shares drifting lower since May thanks to a quiet period for newsflow, the stock could be worth a look for those who want small-cap exposure to the Permian. Indeed, as we wrote earlier this month, Nostra is yet to publish anything else about its new G6 well in the Permian since reporting that it had been completed and was being put into immediate production. As a result, news flow is likely on the horizon.

Author: Daniel Flynn

The author does not own shares in the company mentioned in this article


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