Callon Petroleum: Offshore Company Moving to the Permian

Feb. 1.11 | About: Callon Petroleum (CPE)

Callon Petroleum Co. (NYSE:CPE) was riding high in June of 2008. But like many energy stocks, this did not last. Trading at its height, this stock was $28. By March of 2009 it was under a dollar. As the economy has improved, so has Callon. Now trading above its 50 day moving average, and closing in on $8.80 a share, they could be in store for a breakout.

Callon Petroleum was founded in 1950 and listed on the New York Stock Exchange. Their business is run with strong cash flow from operations in the Gulf of Mexico, and this is reinvested to on shore properties. At the end of 2009, Callon's proved, probable and possible unrisked reserves totaled 39 MMBOE. Proved reserves increased to 13 MMBOE after the third quarter of 2010. This was an increase of 34% year to date. Callon states that between now and 2012, much of the probable reserves will be converted to proven. It seems that their new business thrust is into onshore where many of the shale plays have become drillable through horizontal techniques.

They currently have $20 million in cash. They have an unused $100 million credit facility to make purchases if the right deal happens. This year Callon has a capital expenditure budget of $43.8 million. No debt maturities come due until 2016, and it seems most expenditures can be funded through cash flow. There are hedges in place, for added protection.

Of the $43.8 million 68% is committed to creating growth through cap ex. Callon will invest half this money in the Permian. 22% will go to capital costs. 16% is going to shale gas. 7% will go to the Gulf of Mexico operations. The final 5% will end up in lease holds.

There has been a considerable change in the mission and operations of Callon. Not that long ago, Callon was focused offshore. Over the past few years, this changed to on shore, longer life plays. To proceed and execute, they hired management with experience in places like the Permian and Haynesville Shales.

Their Permian Basin holdings concentrate on oil and this is where the majority of money is going to increase production. The Wolfberry locations are currently producing 500 BOED. 90% of this is liquid priced. 3.5 MMBOE is proven, while 8 MMBOE is probable, and 11 MMBOE is possible. Wolfberry has 300 potential drilling locations and it is 100% controlled by Callon. Carpe Diem has an 84.4% working interest by Callon. Carpe Diem has upside with respect to development and has 7 producing wells. The Kayleigh development is 100% working interest. It currently has 7 producing wells. East Bloxom development has 7 producing wells and 100% working interest.

The Haynesville shale is a gas property. With oil prices up and natural gas down, they are pushing ahead with the Permian, while slowing moving forward here. Callon would like to balance their business between oil an gas, but oil has a much better return on investment. Callon has 70% working interest here. Average estimated recovery is greater then 7 BCF per well. Haynesville has 24 BCFE of net resource. Callon has stated that there will be greater development here in 2012, but only if there is a rebound in gas prices.

Going forward, Callon has a good pipeline of drilling inventory. Two rigs are currently drilling. By 2014, rigs will drill all the 40 acre locations. Since they have no obligations with respect to oil or natural gas, Callon can increase or decrease the amount of drilling they do as pricing allows. Currently, they have 21 producing wells. Two of their wells are ready to be completed. 17 wells are currently being drilled or permitted. The remaining forty acre wells total 153. In the Wolfberry position, Callon thinks they may need to go to 20 acre spacing to thoroughly drain the wells. If this is the case they could have another 176 wells to drill. This brings the total possible wells to 352.

If Callon's resources are broken down by size and area, it creates a much more defined plan. Current proven resources are 8 MMBOE in the Gulf of Mexico and Wolfberry's 2 MMBOE. Probable reserves are 10 MMBOE at Wolfberry with 40 acre spacing, Haynesville's 4 MMBOE, and the Gulf of Mexico's 2 MMBOE. The proven and probable locations offer 200% to 300% reserve replacement. They also produce an estimated double digit production growth. Lastly, 70% of probable and proven are liquids. Possible locations include Wolfberry; is they have to go to 20 acre spacing, it would add 11 MMBOE and Haynesville adds 2 MMBOE. Callon believes that 80% of their probable inventory will be converted to proven next year.

In summary, last year - from the beginning of 2010 to September of the same year - Callon increased reserve growth by 34%. Onshore production growth 2010 to 2013 is estimated to increase 20% total AAGR. In 2013, they will have 60% of their production from on shore holdings. This can be done if they can increase production in the Permian significantly. If gas prices rebound, then develop their Haynesville position. Most importantly, they need to execute well enough to operate with current cash flow. It is very important not to accrue more debt to pay for increasing production on current on shore acres.

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