The Buda is a naturally fractured oil formation located approximately 100 feet below the Eagle Ford. Buda wells do not require frack jobs and therefore cost much less to drill than Eagle Ford wells. Buda wells are drilled horizontally using the underbalanced method. In an underbalanced well the pressure in the wellbore is kept lower than the pressure in the formation being drilled. This allows the oil in the Buda to start flowing to the surface as soon as the drill bit reaches the formation and begins to drill the well horizontally. Hence, from within two weeks of spudding a well, production commences. The estimated cost of drilling a Buda well is $4 million, or less. That compares to a typical Eagle Ford well that requires an expensive frack job and costs between $7 to $8 million to drill and complete. Plus, any well that is fracked has to wait for the completion crew to schedule the well after it is finished drilling. It is not uncommon for an Eagle Ford well to take 2 to 4 months to begin production after the well was spudded.
The Buda formation is not as uniform as the Eagle Ford formation and it is important to find a sweet spot to drill in. A very sweet spot has been found in Northern Dimmit County by the private Dan Hughes Oil Company. It's success has been repeated by another neighboring private company; Sage Energy. Dan Hughes drilled its first Buda well 5 miles NE of Big Wells in Dimmit County, near the Zavala County border, on the Heitz 304 lease. This well, along with Dan Hughes's other Buda wells, had been kept confidential by the Texas Railroad Commission until the end of January, 2013. The RRC identifier for Dan Hughes's first Buda well is District 1, no. 724051, classification pending. According to the Texas Railroad Commission, this well produced 154,019 barrels of oil in its first 12 months of production. Dan Hughes then started moving west and drilled its best Buda well so far, the Heitz 302 3H well. Its Texas Railroad Commission information is District 01, RRC identifier no. 736515, classification pending. According to the Texas Railroad Commission, this well has produced 200,151 barrels of oil in its first 9 months of production from June of 2012 through February 2013. These wells have also produced a small amount of natural gas in addition to the oil. The results are as strong, or stronger, than the best Eagle Ford wells.
Sage Energy has replicated the results with their Sage Mills #2 Buda well, RRC no. 748180. This well has produced 49,663 barrels of oil in its first three months of production from December 2012 through February 2013. Investors have an opportunity to participate in these terrific Buda wells by buying Crimson Exploration (CXPO). Here is a link to a map in Crimson's presentation showing Crimson's leases in yellow and the Buda wells drilled by Dan Hughes and Sage Energy.
As can be clearly seen, both Dan Hughes and Sage Energy are trying to drill as close as possible to the Crimson Exploration property line. Crimson announced in a press release on April 2, 2013: "In Dimmit County, Texas, Crimson has received the drilling rig and is preparing to spud the Beeler #2H well (50.0% WI) targeting the Buda formation. The Beeler #2H will be drilled to an approximate total measured depth of 11,180 feet, including an approximate 4,000 foot lateral, with initial production rates expected in May." But since this well will start producing as soon as the wellbore reaches the Buda formation word on its success could start leaking around the oil patch in April. Crimson has a 50% working interest in all of the wells on its lease. Its joint venture drilling partner, U.S. Energy (USEG), has a 30% working interest in all of the wells on this lease.
Unlike the Eagle Ford, wells in the Buda Formation are not expected to produce for 30 years. Successful Buda wells will maintain a strong production profile and then go into a rapid decline. It is not known how long these Buda wells will produce oil, or how much oil they will produce. Crimson is estimating each well could produce between 200,000 Boe to 300,000 Boe. That may turn out to be too low. Since two Buda wells in this area have already produced well over 150,000 barrels of oil in the first year of production, plus some natural gas, an assumption could be made that the Buda wells will average 150,000 barrels of oil in the first year.
These wells represent some of the best economics for oil anywhere in the lower 48 United States. The oil sold by Crimson in this area is priced based on West Texas Intermediate. West Texas Intermediate could average $90 per barrel over the next 12 months. It has traded above $90 per barrel for most of 2013. Crimson estimates its unbalanced Buda well will cost $4 million to drill, complete, and place into production. Crimson and U.S. Energy were recently able to purchase back some of the royalty rights on this lease and they now only pay a royalty of approximately 18.5%. They also will have to pay Texas production taxes of around 6.5%. So each barrel of oil sold comes with an expense of 25% off the top. Additionally, the companies would have lease operating expenses of around $7.50 per barrel. At $90 WTI, Crimson and U.S. Energy would be expected to net approximately $60 per barrel of oil sold.
This means the wells would breakeven after they sold approximately 67,000 barrels of oil. While the wells are also producing some natural gas, revenue from natural gas will be ignored in this analysis. Assuming a linear production profile the wells would start earning a profit after 5 1/2 months. But the production profile is not linear. The wells start off strong and then start to taper off. For example, the Sage Mills #2H well produced over 49,000 barrels of oil in only three months. The Heitz 302 3H well produced over 80,000 barrels of oil in its first three months. If one assumes these wells will produce 200,000 barrels of oil in two years and then completely stop producing, then the wells will provide a cash profit from 133,000 barrels of oil in two years. At a net $60 per barrel that means each well will produce around $8 million in profits.
Since Crimson is estimating 20 drilling locations, at $8 million per well these wells would be worth $160 million combined. If the wells were to produce an average of 300,000 barrels of oil over 3 years, then the profits from each well would be closer to $14 million. Additionally, Crimson is using a conservative 320 acre spacing per well. If these wells could be downsized to 160 acres, then that would also double the profits for Crimson and U.S. Energy. These Buda wells could represent $160 million to $640 million in cash profits for Crimson and U.S. Energy over the next three years. The combined market cap of Crimson and U.S. Energy is only $180 million. Crimson has indicated if the first well has comparable results to the Buda wells surrounding them they would up their drilling budget and start a continuous rig program in the Buda in 2013. A successful Buda drilling program could be a company maker for both Crimson and U.S. Energy if the 200,000 Boe to 300,000 Boe EUR's per well estimated by their petroleum engineers and geologists is accurate. We will get a much better handle on the potential of these wells simply by tracking the production performance of the Dan Hughes and Sage Energy wells now that they are no longer confidential.
The third company that could be a big winner from this Buda discovery is Chesapeake Energy (CHK). Chesapeake has hundreds of thousands of acres surrounding Crimson Exploration in Dimmit and Zavala Counties. Crimson has put up over 100,000 net acres for sale to raise capital. The results of the Buda well being drilled by Crimson will materially impact the value of some of those acres. Other companies with leases within 20 miles include Sanchez Energy (SN), Matador Resources (MTDR), Goodrich Petroleum (GDP), Anadarko Petroleum (APC), and Cabot Oil and Gas (COG).
Chesapeake is having to sell assets to raise cash to fund its capital budget due to low natural gas prices. Crimson Exploration also is having to limit its capital budget for drilling due to low natural gas prices. U.S. Energy is thinly traded. Smallcap companies have limited resources and limited access to capital compared to a large company like Chesapeake. Each of these companies have their own risk profile and investors should do their own due diligence before considering investing in any of these companies. The opportunity investors have before them, however, is the first Buda well drilled in this very sweet spot by a publicly traded company is drilling now and will be announced soon.