In the past, I have written about Equal Energy (EQU) in the context of the shareholder activism efforts undertaken by myself and a number of shareholders to unlock shareholder value. Those efforts have been rewarded, as the Calgary, Alberta, Canada-based oil and gas exploration and production company's management initiated a strategic review on May 3. I would like to personally thank the chairman, Mr. Dan Botterill, the CEO, Mr. Don Klapko, and the board of directors for demonstrating sensitivity to shareholders' demands.
In this article, I would like to focus on one of Equal Energy's hidden assets -- the Lochend Cardium acreage -- and demonstrate why this asset is likely to fetch a premium valuation in a transaction.
The Lochend Cardium
The Cardium oil formation is a large formation located in Alberta. It has over 50 years of oil and gas production history. One of the fields in the formation, the Pembina oil field, was first put into production in 1953. The formation got a new lease on life with the advent of horizontal drilling and fracturing. NAL Energy (which was acquired by Pengrowth Energy (PGH) in March 2012) was one of the first companies to deploy new technology in late 2008 to unlock the tight oil locked in the formation.
(click images to enlarge)
As can be seen from the above, the Cardium is divided into several sections; each section has a different production and oil/gas ratio profile. The Lochend is located to the southern tip of the formation.
Historically, the Lochend didn't provide the best IP30 rates in the Cardium; it was considered the poor sister of the Garrington Cardium to the north, with IP30s averaging in the low 200-barrels per day, with 75% to 80% light oil weighting.
The perception that Lochend was a lower caliber started to change in January 2012, when NAL Energy reported the following results:
Source: NAL Energy
As the chart shows, the IP30 rates are meaningfully higher than the historical average. NAL explained that those results were obtained due to the application of slick water fracturing and the emergence of a "sweet spot" in the Lochend Cardium area. In conjunction, NAL published an impressive type curve for the Lochend sweet spot:
The economics of the sweet spot are nothing short of phenomenal. Using $88.95 per barrel oil price for 2012 and $92 oil prices for 2013, NAL/Pengrowth is estimating a ROR of up 200%, NPV15 of $6 milli per location and 3.5 to 5 times recycle ratio:
Source: Pengrowth Energy
The results in the Lochend Cardium are so good that at the RBC Global Energy Conference on June 4th 2012, Pengrowth Energy CFO Chris Webster, labeled the Lochend Cardium formation as the acreage with the "best economics" within Pengrowth's portfolio of assets.
In March, Pengrowth Energy published a 3D seismic map detailing the location of the sweet spot in the Lochend Cardium:
Source: Pengrowth Energy
Equal Energy's Varied, But Valuable Collection Of Assets
This map is of key importance to Equal Energy, since it demonstrates that virtually ALL of its Lochend Cardium acreage is in the sweet spot. The image below shows Equal Energy's Lochend acreage with the sweet spot borders drawn around it:
Source: Equal Energy (sweet spot borders drawn by me)
And here is a close-up that shows some of Equal Energy's wells vis-à-vis NAL/Pengrowth wells in the sweet spot:
Source: Trioil Resources (Pengrowth-Equal wells highlighted by me)
Equal Energy has a significant inventory of 41 locations (12.5 sections) in the sweet spot vs. an inventory of 83 locations for Pengrowth. Another player with a smaller position in the area is PetroBakken (PBKEF.PK).
A question worth asking, however, is why Equal Energy has not generated the same type curve as Pengrowth in the past when it drilled the formations between 2010 and 2011?
The answer is slick water fracturing. Prior to 2012, Equal Energy was utilizing a sub optimal fracturing technique. The company had a lack of installed infrastructure that would allow it to utilize slick water fracturing, which requires a large amount of water handling infrastructure. This issue has been resolved, and the company is currently undertaking its first slick water fracturing on its latest Lochend Cardium well, drilled in May 2012. The results from this well are expected to be published shortly, and they should be vastly superior to what the company has experienced in the past.
The Lochend Cardium asset is just one example of the number of quality assets in Equal Energy's portfolio. The company has an equally attractive acreage position at the Viking at Halkirk, directly offsetting Cutpick Energy acreage (recently acquired by Crescent Point Energy (CSCTF)). In the United States, the company has a very attractive position in the Mississippian in Oklahoma, offsetting Sandridge Energy (SD) at Alfalfa and Grant Counties. This is in addition to the company's core de-watering Hunton formation.
With such strong well economics, and its optimal location adjacent to natural consolidates such as Pengrowth and PetroBakken, it is likely that Equal Energy's Lochend acreage will fetch a premium valuation in a transaction. Likewise for Equal Energy's Viking Halkirk position, which is a natural extension to Crescent Point's position in the area.
A Brief Note About The Strategic Review
As the company's Lochend Cardium position demonstrates, Equal Energy has a valuable but incongruous collection of assets. Some of the company's assets -- like the Lochend Cardium, Viking and the Mississippian -- are typical resource plays requiring horizontal drilling and fracturing demonstrating attractive tight oil economics and a fast decline profile. Another portion of the company's assets -- the Hunton formation -- is a mature formation with a much slower decline profile that requires a vastly different development approach.
It is important to keep in mind that the strategic review at Equal Energy has been initiated to deal with core strategic issues leading to the company's undervaluation in the marketplace. This review was not initiated as a result of any financial distress. As a matter of fact, when the review was initiated, the company was (and is) in its best financial shape over the last 5 years.
Scotia Waterous, the lead advisor on the strategic review, has confirmed a "strong level of interest" in the company assets. The company's board of directors has also demonstrated a commitment to unlocking shareholder value. Equal Energy is fully cognisant that its current approach is not the proper strategy to unlock shareholder value. As such, management is currently considering all alternatives -- from an outright full sale of the company to a partial divesture and the conversion into a dividend energy trust.
For an excellent overview of the options available to the company, I strongly advise reading the article written by fellow shareholder Adam Goldstein on the topic.
From my conversation with the bankers handling the strategic review and interactions with the company's management, it is abundantly clear that Equal Energy is investing significant efforts in the strategic review process. Undertaking a review of this nature is a complex and lengthy endeavour. Shareholders are highly appreciative of the efforts invested by the company staff, management and board of directors to unlock shareholder value and better position Equal Energy's valuable assets in the marketplace so they may achieve their proper valuation.
It is expected that Equal Energy's strategic review will conclude in the near future. Subsequent to the review conclusion, it is highly likely that the company's shares will experience a significant and sharp re-rating due to a corporate transaction or a change in the company business model. No matter what the outcome, a successful one will demonstrate that motivated shareholders, an attentive management team and a responsible board of directors can generate substantial value when working in unison to the benefit of all parties involved. A unison that perhaps deserves to be labeled the "corporate sweet spot."
Disclosure: I am long EQU.