Chevron: What's Going On In The Alder Field And Tengizchevroil

| About: Chevron Corporation (CVX)

In January, Chevron (CVX) made a final investment decision (FID) to develop the Alder field project and received approval to do so from the British government. The Alder field project is in the North Sea, with Chevron holding a 73.68% stake and ConocoPhillips (COP) owning the rest. The Alder field is expected to contain around 4,820 million standard cubic meters (SCM) of gas, and process around 110 million cubic feet per day (mmcfpd) of gas and around 14,000 barrels of condensate per day. It is expected to start production in 2016.

The Alder project is around 100 miles off the coast of Scotland in the U.K. Continental Shelf (UKCS) at a depth of around 500 feet below the water. The reservoir has a complex well formation as it is in the high-pressure and high-temperature (HPHT) region of the rock formation. HPHT reservoirs form an important part of exploration in the UKCS, as more recoverable oil is expected to be found there. The amount of recoverable hydrocarbon from the UKCS ranges between 12 billion barrels of oil equivalent (bboe) and 24 bboe. ConocoPhillips has operations in the HPHT hydrocarbon reservoir in the North Sea, so Chevron could leverage that expertise to operate on similar reservoirs. ConocoPhillips operates in the high-temperature and high-pressure Jasmine field in the central North Sea with recoverable reserve of around 100 million barrels of oil equivalent (mmboe). Work on the Jasmine reservoir by ConocoPhillips started in 2010, with the first production achieved in 2013. In 2014, the production from this field is expected to be around 40,000 barrels of oil equivalent per day (boepd).

Further, the oil exploration industry in the U.K. is looking for incentives from the U.K. government in the form of tax breaks on oil exploration. Findings show a decrease in exploration activity in the UKCS, which is an important region of hydrocarbon production (around 99% of U.K. oil and gas is produced from the UKCS). In 2013, the number of field discoveries was 13, compared to nine in 2012. While the oil-field discovery increased the exploration activity, the number of appraisal and exploration wells decreased to 47 in 2013 from 65 in 2012. In comparison, drilling activity in the Norwegian Continental Shelf (NYSE:NCS) increased by 41% during the same time. The lower exploration and drilling in the UKCS could be attributed to increased operational cost. Across the exploration industry in the UKCS, operating expenditure is estimated to have risen in 2013. The average operating cost in 2012 in the UKCS was around $22.31 per barrel of oil equivalent (NYSE:BOE) to around $23.96 per boe in 2013. So as operation costs rise, resulting in margin compression for the oil companies, tax breaks in exploration could provide a much-needed incentive. A tax incentive for exploration could provide Chevron and ConocoPhillips with better margins for their operations in the Alder project.

Increasing output in Kazakhstan

The output from the Chevron-led Tengizchevroil (TCO) increased from 24.2 million tons in 2012 to around 27.1 million tons of crude in 2013. The TCO produces crude from the Tengiz oil field. By 2020, Kazakhstan plans to increase production output to around 100 million tons of oil, and Tengiz is important to that plan. In November, TCO signed a Memorandum of Understanding (MOU) to increase its production from the Tengiz field from 26 million tons to 38 million tons per year. This production output is around 33% of the national target by 2020 and is expected to be completed by mid-2018. The Tengiz field is expected to have a recoverable reserve between 6 billion barrels and 9 billion barrels of recoverable oil. The increase in Chevron's production output from the Tengiz will also help the company to increase its overall production output.

Oil production from Kazakhstan is dominated by two fields, the Kashagan, and Tengiz, which combined produce nearly half of Kazakhstan's total oil production. Kazakhstan exports much of its oil production. The following graph shows the relationship between Kazakhstan oil production and export of oil.

In 2013, demand for oil from Kazakhstan increased from China. The oil sent by the China-Kazakhstan oil pipeline increased to around 86 million barrels, which is 14% higher than what was transported in 2012. China alone imports around 12% of Kazakhstan's total oil, with the European Union constituting around 72%. With the Kashagan project yet to come into commercial production (halted due to a technical snag), the production from the Tengiz field could find a ready export market. The Kashagan oil field is expected to produce around 1 million barrels per day in 2020. So the increasing production from the Tengiz field of TCO could make up for the crude export gap and generate more revenue for TCO in the coming quarters.

Risks and rewards

Chevron's Alder project is in one of the challenging regions of the UKCS. The company's partnership with ConocoPhillips could provide the required expertise to operate in those challenging regions and mitigate exploration risks. Further, exploration companies operating in the UKCS face increasing costs of operation and Chevron's cost of operation in the region could also be affected. If the U.K. Government provides tax incentives, it will influence exploration activity there.

In Kazakhstan, increased oil production from the Tengiz field will benefit Chevron. The increased production from the Tengiz field will offset the effect of Kashagan's closed operation and will maintain a stable export activity. Its operation in Kazakhstan puts the company in a unique position to take advantage of the country's oil export market.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: Fusion Research is a team of equity analysts. This article was written by Madhu Dube, one of our research analysts. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article