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FX Energy, Inc. (NASDAQ:FXEN)

Q1 2013 Earnings Call

May 9, 2013 4:30 PM ET

Executives

Clay Newton – VP, Finance

David Pierce – President and CEO

Analysts

Kim Pacanovsky – MLV & Company

Jason Gammel – Macquarie

Chad Mabry -KLR Group

Raymond Deacon – Brean Murray, Carret & Co, LLC

Zachary Prensky – Little Bear Investments

Bill Baum – Great American Investors

Operator

Good afternoon ladies and gentlemen and welcome to the First Quarter 2013 Financial and Operating Results Conference. As a reminder today’s call is being recorded. Now I’d like to turn things over to Mr. Clay Newton, Vice President of Finance, please go ahead.

Clay Newton

Thank you, Sara. And thank you all for joining us today. I’m Clay Newton, VP of Finance here at FX Energy. Welcome to our 2013 first quarter earnings call.

This call will follow the usual format. I’ll talk about just a few key financial items, as substantial details is available in our earnings release and our 10-Q that was filed earlier today and can be found on our website. After that, David Pierce, our CEO will talk about our CapEx for this year and provide some operational updates. We’ll also have a Q-&-A at the end of David’s remarks.

I’d like to remind investors that during today’s call we’ll be making statements that are forward-looking and consequently are subject to risks and uncertainties. Examples of these statements include those regarding exploration, drilling, development, or other projects or operations that may be subject to the successful completion of technical work, environmental, governmental or partner approvals, equipment availability, or other things that are or may be beyond our control.

You should be aware that certain factors may affect us in the future and could cause actual results to differ materially from those expressed in these forward-looking statements. Such factors include the risks set forth in our Form 10-K and our other filings with the SEC. We urge you to consider these factors and remind you that we undertake no obligation to update the information contained on this call to reflect subsequent events or circumstances.

I will divide my remarks today into three sections. First I will talk about the number, production, revenues and non-cash charges. Second I will update the progress we are making on our credit facility. Lastly I will spend a few minutes talking about our liquidity and capital resources.

I will start with production. Oil and gas production for the first quarter of 2013 was up about 5% from the first quarter of a year-ago. 2013, Q1 production was just under 1.3 billion cubic feet equivalent, an average of about 14 million cubic feet equivalent per day while 2012 Q1 production was just over 1.2 billion cubic feet equivalent of 13.2 million cubic feet equivalent per day. The full quarter’s production from our KSK well along with new production at our Winna Gora well combined to offset production declines at our Zaniemysl and Roszkow wells. So far in the second quarter of 2013 our net daily production has averaged about 13.2 million cubic feet equivalent per day which is what we expect to average for the second quarter of this year.

We expect production to be down a bit from Q1 due to the declines at Zaniemysl and Roszkow but we also expect production from those wells to remain steady now through the end of this year. Construction is under way on our Lisewo facility where our current plans call for us to start producing from our Lisewo-1 and Komorze-3 wells later this year. When those wells come on line we expect to see production increasing again.

During the first quarter our oil and gas revenues were $9.4 million, up 19% from last year. Total revenues of 9.5 million were 11% higher than our 2012 total. In addition to our high production, natural gas prices were also up this quarter. During our first quarter of this year, as denominated in U.S. dollars the average price we receive for production in Poland is $7.18 per Mcf, compared to $6.03 per Mcf in 2012, an increase of 19%. The Polish gas tariff was 13.1% higher in the first quarter of 2013 compared to 2012. In addition, a stronger Polish zloty pushed our dollar-denominated average prices up another 6%.

A few words as we do each quarter about non-cash charges. Our financial results continue to be impacted these non-cash charges. In the first quarter of 2013 we recorded foreign exchange losses of about $9.1 million compared to foreign exchange gains of about $14.5 million during the same quarter of 2012. Please remember that almost all of these foreign exchange gains and losses are related to the dollar denominated inter-company debt between FX Inc. and FX Poland and other dollar denominated debt at the FX Poland level. These will continue vary over time as the exchange rate between the US dollar and Polish zloty changes. However they have no impact on our revenues cash flows or our ability to execute on our capital budget.

In our last call we noted that we are working on a new credit facility to replace our old facility. We hope to close on the new facility by the end of this month. Once we are closed we will announce more details but I can say that this facility will come with a higher dollar commitment and slightly better terms than we have at present. The structure will be very similar to the one currently in place. We will also start the interest-only clock again which will allow us to remove from our balance sheet the $7 million current liability related to the existing credit facility.

Considering our liquidity and capital resources, our cash provided by operating activities of $4.5 million increased by about $150000 from the first quarter of last year to this quarter, our higher revenues were offset by higher exploration costs as well as some changes in our working capital items. In our cash on hand, our available line of credit which should be increased shortly and our expected cash flow this year we expect to have more than $75 million available to put to work, As Dave will explain in more detail, we are well positioned to pursue an active exploration and development program during the coming year.

With that background, I will now turn the call over to David for some operational updates.

David Pierce

Thank you, Clay. It just keeps getting better. Good afternoon, I am David Pierce CEO of FX Energy. Thanks for joining us today. This call comes at a great time for FX Energy, Clay just reported higher production revenues. We have two more wells to bring online in the second of this year, running winning towards record production levels. We have a big drilling project shaping up in the Lisewo area of our core Fences concession. We have two wells testing now and four more to drill this year plus perhaps two further wells that might get started this year. Things are looking very good and I would like to give some color on this year’s main events.

I will start with the Edge concession in northern Poland and our Tuchola-3K well. Ten days ago we flowed the Tuchola well at a rate of about 5 million cubic feet a gas per day on a drills done test. Since then we have been getting the well ready for production test. We expect to start that test in the next three or four days and plan to test for just under a week. We expect to have results available week after next.

We will be testing our Plawce Dolomite section right at the contact between base Zechstein and top Devonian. This is a zone we have not seen in other wells in the regions so there are many unknowns. The production test should tell us something about production rate and well reserves. Our preliminary mapping on this horizon indicates structural development to the east of the well. But the structure appears to continue pass the end of our 3D seismic.

We need to evaluate the test results before making follow up plans, but likely we will follow-up with additional 3D seismic and drilling. We need to determine the full extent of the Tuchola structure and we need to get 3D over some other leads elsewhere in the concession that appears similar on 2D seismic. It should be possible to get that seismic done early enough that we will have time to drill one or two wells in the fourth quarter if we see good targets. We operate and hold 100% of the working and so the pace of events should be faster than we are used to in the Fences concession. We will make definitive plans later this month.

The other area outside our Fences concession where we could see activity this year is Block 246 just Southwest of the Fences. We are pursuing both the Rotliegend and Ca2 main Dolomite in the southeastern part of the block to follow upon the encouraging results from our Frankowo-1 well last year. We plan to acquire 3D seismic this year over the most promising part of that target area and hope to identify a number of drillable targets. We plan to drill main Dolomite and Rotliegend wells in 2014. The well should be shallow and relatively inexpensive.

In addition, we are looking at Carboniferous potential in Block 246. This play is based on two big fields that lie just north of the block and we are currently evaluating the merits of drilling a carboniferous test this year. As with the Edge block we anticipate making definitive plans later this month and since we hold 100% working interest we can act immediately.

Our two other non-Fences concession Warsaw South and Block 229 both are scheduled for additional seismic this year to set up drilling in 2014. The Sroda is our non-Fences exploration we are testing now the Edge concession and we plan one or two additional wells there this year. Block 246 could see a carboniferous well this year and otherwise is scheduled for 3D seismic this year and Rotliegend main Dolomite drilling in 2014 if we come up with good targets.

Warsaw South and Block 229 are scheduled for more seismic this year and drilling in 2014. In all, we anticipate two or three more non Fences wells this year. Our goal remains to find areas where we can explore at a reasonable cost with a reliable risk expectation of developing significant commercial reserves, following the model we’ve established in the Fences concession area.

Turning now to the Fences concession, we will begin testing the Plawce-2 well this weekend. Plawce-2 is vertical well drilled into tight Rotliegend sandstones. We completed three fracs and we will now test whether this well will yield gas at commercial rate. We have three zones to flow back and test so final result might not be available for 30 days or so. The immediate question is whether the production tests give us enough encouragement to build the facility and put the well under production. Longer term, we want to see that the tight Rotliegend strip along the northern border of the Fences concession might be an economic resource. We should know a little more in an about a month.

Our favorite topic in the Fences concession is the Lisewo area. We’ve already discovered 50 BCF of gross P 50 reserves in our two wells, Lisewo-1 and Komorze-3, our 49% net interest is about 25 BCF on a most likely P-50 basis with a pretax PV-10 percent value of just over $70 million. We are under construction and on schedule to start flowing gas in the second half of this year from Lisewo production facility. This facility is designed to handle production from the Lisewo-1 and Komorze-3 discoveries in addition to production that we hope to establish from Lisewo-2, Szymanowice and other future wells nearby in the Lisewo area.

We have two Lisewo area well we are ready to drill, Lisewo-2 and Szymanowice-1. We expect to see drilling start late June or early June on Lisewo-2 then move to the Szymanowice location. Lisewo-2 is designed primarily to enhance production rates from the Lisewo field.

The Szymanowice target is a large structure immediately southeast of the Lisewo field. It’s a very interesting well for us and it should provide clues about how these structures connect with each other if they do and about how they seal. These are key issues that may have a big impact on how much upside potential we actually have in the Lisewo area.

Meanwhile the operator’s moving ahead with a 10 well project for Lisewo. This project requires a concession amendment and a new environmental report both of these are well underway. We hope to see this 10 well program get underway before year-end but we need to be cautious about the timing. There’s enough bureaucracy in Poland, that delay is the rule here not the exception.

To summarize our Fences drilling plans we have the Plawce-2 well testing now, Lisewo-2 and Szymanowice-1 scheduled to drill and we hope to start one or two more Lisewo area wells before year-end.

As I said at the outset this is keeping up to be quite an eventful year for FX Energy. We have two key wells testing now and four to six more wells to drill this year. The multi-well program getting underway in the Lisewo area is the biggest relatively lowest project we had undertaken. It could have a real impact on reserves and production this year and next. And the Tuchola well in the follow up operations in the Edge concession also have the potential for bigger impact.

A few notes these projects might even lift their share price above the $4.56 per share net P-50 reserve value. In any event we’re very happy to see this substantial increase in activity and we thank you for your role in helping us get here.

Operator we can take questions now.

Question-and-Answer Session

Operator

(Operator Instructions). We’ll pause for just a moment to assume the roster. And we’ll take our first question today from Kim Pacanovsky with MLV & Company.

Kim Pacanovsky – MLV & Company

Hi good afternoon everybody.

David Pierce

Good afternoon Kim. Thanks for calling.

Kim Pacanovsky – MLV & Company

Well thanks. Couple of questions, one is could you narrow down the timeline for the Komorze and Lisewo well coming online. I mean you were saying second half of the year and we are in almost in the middle of May so if you can throw little bit more clarity on that.

David Pierce

I think we’ll see one in the third quarter and one in the fourth quarter how is that?

Kim Pacanovsky – MLV & Company

Okay that’s a little bit better.

David Pierce

That’s a little better.

Kim Pacanovsky – MLV & Company

A little better and then the exploration costs in this corner I that all a carryover from Kutno or some of that costs did you have to experience anything from the upper Devonian and Tuchola, not the upper devo – yeah the Devonian ,oil yes.

David Pierce

No we haven’t expensed anything yet at Tuchola of our testing. All but I think couple of $100,000 of explorations expenses this year have been incurred this year. There is no carry over from Kutno.

Kim Pacanovsky – MLV & Company

Okay got it.

David Pierce

So everything this year is seismic either 2D or 3D and some costs associated with (Mieczewo well).

Kim Pacanovsky – MLV & Company

Okay super. And can you just give us your thoughts on Marathon and Talisman exiting Poland?

David Pierce

They are not the first I guess Exxon was the first who headed for the door. The stuff I read and the stuff that I’ve heard short of it on the ground in Poland is there are two big factors. One of them is that notwithstanding everything the government said about trying to be cooperative the bureaucracy in Poland as you well as I know is pretty fixed. And the other one which you can’t do anything about is at least on their land they couldn’t find anything worth having. The shale play it’s wonderful in the U.S. in terms of given we saw lot of natural gas but Poland you can’t even drill them there is no evidence that I’ve ever seen that says the shale play is going to work over there so…

Kim Pacanovsky – MLV & Company

And is this pertinent to all the discussion on higher royalty?

David Pierce

I certainly think it points in that direction. They had the draft legislation circulated a month or two ago. And the tremendous amount of political resistance formed as a result of that and it’s gone very, very quiet. So I’m I certainly can’t predict the final outcome but I think with these departures, the absence of any shale gas production and I don’t think well it’s gone quiet.

Kim Pacanovsky – MLV & Company

Okay. And then David if the Tuchola, the one that you’re testing right now is successful what’s the next step as far as production facilities go and I know that it’s a better timeline than if it were a PGNiG operated well. But how much can you realistically shave of that timeline being that its 100% FX.

David Pierce

Yeah the two year timeline is bare bones minimum. We can’t do anything to reduce that other than potentially produce electricity onsite, hook into the grid. And now that would shave a bunch time of it. And I can’t say that we’re looking on that right now. The first question I think is can we get a sense of what we think the potential is not only here at Tuchola but on the other lease in that concession that we – that we now have mapped. I think that’s the bigger question for us in determining how we’re going to capitalize on it.

Kim Pacanovsky – MLV & Company

Okay, great. Thanks a lot.

David Pierce

You bet.

Operator

Next we’ll hear from Jason Gammel with Macquarie.

Jason Gammel – Macquarie

Hi guys, thanks. David maybe I can just first of all follow-up on what you just answered with Tuchola it’s obviously great that you found the gas and the transition between the Zechstein and the upper Devonian. But my recollection is that the two objectives of the well (inaudible) were in the Main Dolomite and in the middle Devonian.

So I guess my question really is, is this making you rethink your model for the Edge concession, do you actually need to maybe go back and spend a little time thinking about the geological model before you try to drill or do you think just what you’re seeing on 2D seismic is enough for you to go back in to the Upper Devonian-Zechstein transitions zone?

David Pierce

Well the Devonian test was a happy circumstance finding stacked targets and but the other target the Main Dolomite remains a decent target there in that concession. Now we do have Apache well to go by and we have other leads in the area. Now I don’t know whether we’re going to see Main Dolomite leads coincide with this upper Devonian event. And I think we definitely do need 3D seismic and I think our plan is – I’m speaking about a month ahead of things here but I think our plan is going to be to shoot 3D seismic right across this concession on about this level sort of on-trend with what we see here.

We don’t know for certain that we’ve got a big structure here, we may not. The seismic that we have suggests that but it certainly doesn’t prove it. So the test is going to be important I think the next step is going to be 3D seismic. And because we’re on our own here I think we’re going to have 3D seismic to drill on the fourth quarter and not across the entire concession but elements of that 3D. So we’ll probably kick-off a fairly big program in say in 30 days time.

Jason Gammel – Macquarie

Okay and would you consider Unislaw then to still be a drillable prospect or would you kind of put that on the back-burner in search of these transition zones?

David Pierce

Right now Unislaw is going to be on back burner, impart because the risk hasn’t been taken out of it but more because this is so much deeper that it would cost twice as much to drill a well there. As it would test both the main Dolomite and the Upper Devonian and the Tuchola concession for example or the (woods in Alberta). So Unislaw is definitely going to go backburner and we may even release it.

Jason Gammel – Macquarie

Okay, and maybe I will just ask one more and I will give someone else chance. Can you talk a little bit about the completion and design of project? Because my understanding is that the frac zone about five meters in each of three sections in a frac, but the overall zone is about 480 meters. So I am just kind of curious why these two frac are relatively small zone within the section, and do you think that’s going to tell you really not to be able to complete it as a producer.

David Pierce

I sure hope so. We have got sliding sleeves on these things. We are going flow back and do full on production test on each of three zones. And we were setup so that we could produce from one or more of these zones simultaneously. Now the reason we picked these zones is because they had the best porosity by quite a bit. So that doesn’t tell you about permeability necessarily or fraccability for that matter but they looked the most promising. I don’t know these unconventional plays there is a learning curve to them and this is our first time out here. So I can’t tell you whether they might not be more work to be done on it.

But I do think that we are going to see if taking more of conventional approach to an unconventional resources, see if we make that be economic, that would be lovely.

Jason Gammel – Macquarie

Okay, thanks for the comments, Dave.

Operator

Next from KLR Group, Chad Mabry.

Chad Mabry – KLR Group

Hi, good afternoon guys.

David Pierce

Chad, how are you?

Chad Mabry – KLR Group

Doing fine, thanks. Just had a question on the 10 well project you are going to be undertaking here with the PGNiG at Lisewo though, are these going to be more of the satellite structure so this is more on the southeastern part of the structure and then just I guess any details as far as timing and how many wells kind of to expect in the near term would be great.

David Pierce

Okay. I will try take this a piece at a time. As I mentioned we’ve got two wells currently approved and ready to go and that would be Lisewo -2 and Szymanowice-1. We expect to see those in the third and fourth quarter respectively. Now in order to do more drilling in that Lisewo area we have to amend the concession to allow for more wells, more drilling. That in turn requires a new environment report, and of course Ministry approval and all of that PGNiG is carrying that right now and their program is for ten wells.

We expect – at this point we expect to see all our paper work done and filed in the third quarter, and we are hoping to see approval in the fourth quarter and at that point get underway. Now of those 10 well we have, I think seven locations already surveyed. We may end up changing those based on redoing the seismic as we drill additional wells but right now we’ve got seven locations set up and that gives us three spares. Those wells have to cover a total of 10 structures that are in the Lisewo area. Of course two of those we’ve already got wells in; Lisewo structure and the Komorze-3 structure. So that leaves eight structure so far undrilled.

So if you make all these numbers match up you are doing well but it’s a big project, and is one that we and PGNiG intend to pursue as sort of the unified project and not tackle it well by well but rather let’s get after it and drill these structures up and determine what we got here. It looks to be a big resource for us.

Chad Mabry – KLR Group

That’s great, really helpful, and then just a follow-up on the Zaniemysl well, it sounds like that well is kind of setting into decline here. I know you had talked earlier about may be planning to go in and recomplete that well, is that still on the drawing board and then if you could just give any commentary on the production declines there?

David Pierce

The Zaniemysl well way back when we started that produced about 10 million a day and it stayed pretty flat for about four years. It has gone into decline and I think it’s currently producing about $2 million a day. The operator now plans to let that well go until it waters out. And at that point we will – the current plan is to then re-enter Zaniemysl -3 and side track a fair distance because there is a mismatch between what we are expecting to recover from this well and what we think the structure actually holds. And we think this is an issue of compartmentalization. So we think we can sidetrack through into an area that hasn’t, that we haven’t seen production from it in this well. And that’s probably going to be a next year event.

Our net share of the current production is about half million a day and we expect to see that stay somewhat flat through the rest of the year. It may decline a little bit but it is not a big impact on us. We are quite anxious to see it actually water out, and if we are correct then we think we can find the gas water contact at higher locations with a side track. That’s the Zaniemysl plan.

Chad Mabry – KLR Group

Okay, helpful, I appreciate it.

David Pierce

Let me just add that there is no telling what we will find with that side track, we may find that in fact we are wrong and for some reason we miss – we miss-evaluated the structure and we encounter water at essentially the same depth. On the other hand we could find completely untouched part of the reservoir that is in just a separate compartment. So you can go anywhere from production rate sort of like Zaniemysl, what it originally came on all the way to not finding anything. So it’s not a slam dunk in either direction.

Operator

Next we’ll hear from Ray Deacon with Brean Capital

Raymond Deacon – Brean Murray, Carret & Co, LLC

Hey good afternoon, David.

David Pierce

Hi, Ray.

Raymond Deacon – Brean Murray, Carret & Co, LLC

Yeah, I was wondering with the Edge concession when you are talking about one or two more wells for this year, is that regardless of what the 3D shows you or is it dependent on whether you see what you think you are going to see.

David Pierce

That’s a tough one. And I frankly don’t know how to answer that. We have a 2D target on (inaudible) that I prefer to have better seismic on. We could in fact at our upcoming Board meeting next week we are going to talk about just stepping out from the existing Tuchola well and just drilling ahead of 3D seismic. I don’t know what the answer is going to be. For me, I would really to see some 3D seismic before we drill the next well that isn’t related to the Tuchola area. I mean the Tuchola structure itself. We haven’t committed, we haven’t committed particular wells to this program. And when I talked about the Carboniferous in 246 the same thing, we haven’t committed to that yet.

Part of what we want to do is keep our power a little bit dry until we get to about mid-year and could see the results of the testing of Plawce and here at Tuchola and have a little clear understanding of what the potential is for drilling in the Fences. But I think that’s all coming in to focus now and I think in about 30 days we are likely to have a fairly concrete plan.

Raymond Deacon – Brean Murray, Carret & Co, LLC

Okay, got it. And the increase in the borrowing base that you expect, is that likely to already include, contribution from Lisewo-1 and Komorze-3 or would you expect once they are online you might get more of an increase.

David Pierce

No, it will include the contribution of those two wells. So we do expect to see it increase but then to get an increase beyond that would be from new discoveries.

Raymond Deacon – Brean Murray, Carret & Co, LLC

Okay, got it.

David Pierce

May be I bumbled to answer that question. We expect to see an increase but that increase will be based on everything that we have today.

Raymond Deacon – Brean Murray, Carret & Co, LLC

Got it, I was just wondering what do you expect the total cost of the Tuchola well to be and how much that was already incurred in 1Q?

David Pierce

Clay is going to answer that.

Clay Newton

Yeah well we expect the total cost to be about $8 million and of that about $3.5 million was incurred in Q1.

Raymond Deacon – Brean Murray, Carret & Co, LLC

Okay, got, great thank you.

Operator

(Operator Instructions). Next we will here from Zachary Prensky with Little Bear Investments.

Zachary Prensky – Little Bear Investments

Thanks, I was hoping that you could give us a little more understanding as to what to the cut off would be on any expected fund in the Tuchola for you to green light a more significant 3D seismic program? And what I mean by that is as we all knew on this call that we were looking at an expected addition of reserves of 5Bcf to 10 Bcf, we wouldn’t be talking about doing a significant 3D seismic to see the size of this play.

So you must have based upon what you have seen in the whole, where you think you are, whether up dip or down dip of what you are seeing and therefore you must have some idea to the range on both the top end and the bottom end as to what expect oil from (inaudible) should this well be productive. Of course we won’t know that for another a week or two, but assuming that is what would be your cut-off in order for you to green light a larger seismic program and can you give us some idea to the dollars you are talking about spending on that seismic program?

David Pierce

Okay, fair question. I don’t think there is a bottom cut-off. We are seeing decent section of good porosity Dolomite here charged with gas. It gives up easy, I think in order to take the next step and the next proper step in exploration across this block at this level we got to have 3D seismic and that would apply to both the main Dolomite which is already one of our targets. We find the main Dolomite tight in this occasion but we found good porosity about a kilometer and half west of here.

There are appeared to be on 3D seismic there appear to be a number of leads right across the Tuchola block and in 30 days time I should be able to tell you whether or not we are going to mount a 3D campaign this year. I suspect the answer is going to be that we are. If we do that’s likely to cost somewhere in the neighborhood of $10 million and I would look at that as a reasonable risk investment if what you are hoping to uncover are a handful of drillable targets at relatively shallow depth. None of these are deeper than 3,000 meters. They are all up around 25, 27, 2,800 meters. So I don’t know that we have to make a commercial lot of these or that we have to have particular level of reserves in order to justify the next step.

And by analogy last year down in Block 246, we drilled the Frankowo well and in the Rotliegend we didn’t see any trapped gas. We saw good reservoir rock, we saw gas but not trapped and that was sufficient for us to go ahead and approve 3D acquisition program over not as big an area as we’ll do up in Tuchola but a sizable area nonetheless where we think there is a good opportunity to find these Rotliegend traps.

I was looking at some numbers a while a back and our F&D cost over the last eight years run about $2.80 or so per Mcf. Now of course we are not spending that much in the Fences concession finding that gas. Part of the F&D cost is exploration outside of the Fences concession. And it’s our intention it has been our history to devote a very sizeable chunk of our resources every year to exploration and you want to take it a step at time, you would like to get a little seismic information, a little encouragement from drilling, better seismic and then you hope to drill and actually find stuff. And that’s what we after in the Tuchola block and Block 246 and we think we are on the trail of something in both places.

Zachary Prensky – Little Bear Investments

Right, I consider you answered half the question but it doesn’t sort of give us the full picture. I mean clearly and again I know we are not here to predict stock prices but clearly at this price the stock is telling us that we don’t have much reward than a slight percentage of adding something meaningful to the company’s reserves. And part of that is due to the fact that investors are sitting here and scratch our head and figure out okay well what if the company is saying kind of how much of the capital reserves are they putting towards this.

If you are talking about the $10 million seismic or even you start drilling and it seems to me that you must have in mind ultimate resource potential that would exceed, I don’t know 100 Bcf plus otherwise why spend that amount of money. I mean $10 million on a 3D seismic would seem to be to be close to our budget three years ago for the entire company in terms of 3D seismic acquisition. So I just what I am asking is can you give us a bit better sense to as to what your return as you as the leader of the ship here, what you expect to return to the company’s shareholders if you are investing $10 million in a very significant 3D seismic acquisition program?

David Pierce

What I – expect is not a word that you get used to very often in exploration.

Zachary Prensky – Little Bear Investments

Range of expectations.

David Pierce

What I hope that to find out here are a small handful of prospects that would be somewhere north of 25 Bcf each, may be much bigger than that, may be five times that size. But you won’t know that until you drill a well or two or three in each of them. What we are trying to do is set the stage for that to happen. You can’t even begin to talk about that until you have some good leads. You look at all we have done in the Fences concession. We’ve shot some I think more than 3,000 square kilometers of 3D seismic there. And yeah we are starting to hit our stride and we are starting to get the world trade program going. It takes a while to make these things happen particularly in an area where there hasn’t been any commercial production.

We think this is a really good area to be in. But it takes that kind of investment to create that opportunity.

Zachary Prensky – Little Bear Investments

Okay, no, that’s fair. I mean it sounds like you are not cutting through – you are saying handful of potential drilling sites, 25 BCF or more each that will clearly be a very handful return were you to hit even a fraction of that it would be great. Thank you very much, I appreciate it

Operator

We will take our final question today from Bill Baum with Great American Investors.

Bill Baum – Great American Investors

Hello David, Clay, hello everybody how are you?

David Pierce

Bill, how are you?

Bill Baum – Great American Investors

I am great. Hey kind of a follow up to this Edge Tuchola discussion here. One question that I have looking at your press release from May 6th, you talk about putting a liner down 2,690 meters you plugged it up to 2,744. So I am trying to figure out what you’re testing. Can you give me a little more details on what the size of the zone or zones you are testing?

David Pierce

Not at the moment I can’t. We’ve got what 54 meters I believe it is open and so technically that’s what we are testing. Now is all of that Dolomite no, so some of it’s the landing spot from the packer. But I can tell, I can give you a better answer once we done the testing. This rock and this well we are very, very confident and as a result we have the well open going to the bottom without a run on the liner, until just now we had a testing. No I don’t quite know the answer to that and because this zone was unanticipated, we did not pour it and I loved to have pours there. I think between the test and the logs hopefully when it’s all said and done, we can come back and may be report some notion of pay back this year, but can’t do it today, we will know a lot more in about two weeks time

Bill Baum – Great American Investors

Right, so obviously that was drilled more than there. So the $5 million a day would that have been compromised in terms of quantity with the mud and would you be able to extract the mud somehow and may be stimulate in your production test and ramp up that rate possibly

David Pierce

Well it certainly is possible. Pressure was continuing to build during the DST and it never did plateau and we know the well didn’t fully clean up at that time. So during the course of this production test we expect that will happen. That very well could increase the flow rate and we may also do a little stimulation here. That also could potentially increase flow rates. But it’s two weeks early. Yeah there is lot of potential in the well. And in about two week I’ll be able to describe a little better.

Bill Baum – Great American Investors

And my understanding is that this – correct if I am wrong, that this down dip, right. So you can go up theoretically you could probably see on the 2D or the 3D that you have but you could move pretty easily. And I am just wondering kind of dovetailing into the last questions, if it cost you, if you spend $8 million to do the whole well all the way down to the bottom and the next ones would obviously, coming into stone or this region, it would be considerably cheaper to drill the subsequent wells, correct which would be a lot less than the $10 million you might spent on 3D. So you might do a – might just the Board might decide to go ahead with kind of a step out situation versus a 3D right away?

David Pierce

It’s really technical. It’s a question for the technical team rather than legitimately for the Board although certainly the Board is going to get involved in it. On the seismic that we have now, as we currently interpret it, yeah it looks like we can get height at this well as we move eastward, it looks like there is very sizable structure over in that direction. But as I mentioned it kind of continuous on past where we have 3D then we were back in the 2D again. If we are going to go shoot 3D right in this area, and actually get a vivid look at it and we are talking about much better quality, much higher quality, better resolution 3D than what we currently have. If we are going to do all that then do we want to risk a well at this point, if we are going to do that anyway.

So those are some of the questions that we will wrestle with over the next couple of weeks, and I don’t want to prejudge the outcome. I think in the end we will be more drilling in the Tuchola concession block and I think we will shoot 3D seismic in the Tuchola concession block. And the exact order of battle is something that I think we can tell you about a lot better in 30 days time.

Bill Baum – Great American Investors

Okay, and finally to kind of finish up, speaking of technical team. I guess Jerzy and Richard I am sure are abundantly aware of this. Can you kind of speak on their behalf a little bit and give us sort of an (incline) of if they are excited or not about this Edge concession area, and if so what would be may be a moderate to best case kind of a scenario in their mind do you think?

David Pierce

Well, yeah they are excited about it. But that’s not something that you can take to the bank. We think there is good potential here, but it’s early days. And we’ve got some testing to do and I really need you to let us get that testing done and come back and report on what we know and what we plan to do about it. And I think we can do that and the testing results couple of weeks and the plans may be a couple of weeks after that.

Bill Baum – Great American Investors

Fair enough. And finally and I will get off. I am sorry one last thing David. Are there any analogs to this Tuchola?

David Pierce

Not really I mean the main Dolomite is a pretty good analog. It just happens to be a little bit different zone. And this one appears to map pretty well on seismic and but as I said this is the first well in this region. I mean over a big area that has encountered this Dolomite, and now that we see it and we can kind of tweak the seismic to look for it, we have seen it on 2D seismic in a couple other areas here. 3D seismic should allow us to do a much better job of identifying if there are other leads, to identify other leads and prospects on this. But this is really case of first impression and better quality seismic right across the concession is going to help a lot.

Bill Baum – Great American Investors

And the gas quality is good right?

David Pierce

Gas quality is 55%, methane and the balance is nitrogen. So it’s special handling is not required. We will have to get it to the nitrification plant or build one ourselves if the thing is big enough or shall direct to an end user, power plant or something like that who will then be able to consume the gas as it is. But those are all questions for a little bit further down the road when we are beginning to get some notion of what potential reserves might be across the whole area.

Bill Baum – Great American Investors

Very good, thank you very much.

David Pierce

Operator, I thank you for your time and for running this outfit. I think we are ready to close it up.

Operator

Thank you. That does conclude today’s conference. And thank you all for joining us.

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