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FX Energy Inc. (NASDAQ:FXEN)

Q2 2012 Results Earnings Call

August 9, 2012 4:30 PM ET

Executives

Clay Newton – VP, Finance

David Pierce – Chief Executive Officer

Analysts

Kim Pacanovsky – MLV & Co.

Kevin Kwan – Macquarie

Chad Mabry – KLR Group

Daniel Mittag – Oppenheimer

Zachary Prensky – Little Bear Investments

Roger Liddell – Clear Harbor Asset Management

Operator

Please standby. Good afternoon, ladies and gentlemen. And welcome to the FX Energy, Incorporated Second Quarter 2012 Financial and Operating Results Conference Call. Today’s conference is being recorded.

And at this time, I will turn the conference over to Mr. Clay Newton. Please go ahead, Mr. Newton.

Clay Newton

Thank you, Kelcey. Thank you all for joining us today. I’m Clay Newton, VP of Finance here at FX Energy. Welcome to our 2012 second quarter and first half earnings call.

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

I'd like to remind investors that during today's call we will be making statements that are forward-looking and consequently are subject to risks and uncertainties. Examples of these statements include statements regarding exploration, drilling, development, construction 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 we filed in March and in 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’m pleased to announce that today once again we have reported record first half production, oil and gas revenues, and total revenues, with strong cash flow from our operating activities. We remain well-positioned to move forward with the most active capital program in our history.

I’ve divided my remarks today into two sections. First, I’ll talk about production, revenues and non-cash charges. Then I’ll talk about cash flow, liquidity and capital resources.

Let’s start with production. Our production in the second quarter was down just a bit from last year. Total oil and gas production for the quarter was 1.1 billion cubic feet equivalent, an average of about 12 million cubic feet equivalent per day. That’s a 2% decrease from the second quarter of last year.

Total production for the first six months of 2012 was 2.3 billion cubic feet equivalent, an average of about 12.6 million cubic feet equivalent per day. That’s about 6% higher than last year.

The main reason for the decrease in the second quarter was that the operator shut in our Roszkow well for two weeks in May, instead of the usual two weeks in September. But for that, production would have been slightly up quarter-over-quarter.

The good news is that now, only our three KSK wells will be shut-in during September. Roszkow and Zaniemysl should continue to produce without interruption for the balance of the year.

Looking forward, we note that our total day -- total net daily production rate was about 14.8 million cubic feet equivalent per day at June 30. We expect to see this rate maintained during the third quarter, except for the planned maintenance shut-in of the KSK wells. This should yield about a 14 million cubic feet equivalent per day production rate for the full quarter.

As I mentioned, we posted record oil and gas revenues during the first half of this year. Oil and gas revenues were $15.8 million for the first six months of 2012, compared to $14.9 million for the same period of 2011, an increase of 6%.

Total revenues for the first six months of 2012 were $17.1 million, compared to $16.3 million in the first six months of 2011.

Regarding pricing, as we mentioned in our earnings release earlier today, the Polish low-methane tariff, which serves as the reference price for our gas sales agreements, was significantly higher during the first half of 2012, compared to the same period of 2011. This was due to two price increases approved by the Polish utility regulator since mid-2011.

However, period-to-period strength in the U.S. dollar against the Polish zloty decreased our U.S. dollar denominated gas prices. Despite the two prices increases, as a result of the fluctuation in exchange rates our natural gas prices in Poland only increased 8% year-over-year.

I’d like to spend a few minutes discussing currency issues. Our functional currency in Poland is the Polish zloty. Despite the fact that everything we do in Poland is zloty-based, including the generation of revenues, our operating costs, drilling costs, the construction of production facilities, overhead costs and so on, we are required for U.S. financial reporting purposes, to convert everything we do in Poland into U.S. dollars.

For example, our zloty-based natural gas revenues are 28% higher this year compared to last, rather than the 7% increase in U.S. dollar denominated natural gas revenues we reported in our 10-Q today.

So, while it’s disappointing to see our U.S. dollar denominated revenues adversely impact by -- impacted by the exchange rate fluctuations, it’s important to remember that we do benefit on the other side of the ledger.

Our U.S. dollar denominated exploration and capital spending, along with our operating and administrative costs, are also lower because of the fluctuations. These fluctuations, again for reporting purposes only, can artificially reduce our natural gas revenues and the U.S. dollars being spent on capital projects.

Simply put, a stronger U.S. dollar buys more zlotys so we spend fewer dollars on capital expenditures to get the same benefit. However, the most important thing to remember is that sometimes these exchange rate fluctuations can mask the progress we’re making in Poland.

In addition to our revenues, operating and administrative costs and CapEx, we continue to see significant non-cash foreign exchange gains and losses that have a material impact on our bottom line.

In the first half of 2012, we recorded foreign exchange gains of about $1.5 million, compared to foreign exchange gains of about $10.3 million in the first half of 2011.

Please remember that almost all of these foreign exchange gains are related to the dollar-denominated intercompany debt between FX Inc. and FX Poland, and other dollar-denominated balance sheet items at the FX Poland level.

These non-cash gains and losses will continue to vary over time as the exchange rate between the U.S. dollar and Polish zloty changes. However, these non-cash charges have no impact on our revenues, cash flows or ability to execute on our capital budget.

I’ll wrap up with a few final words about our cash flow and liquidity and capital resources. Net cash from operating activities of $4.5 million was $10.2 million higher than last year’s first half.

We currently have $15 million of remaining borrowing capacity in addition to our $45 million cash balance and our expected higher cash flow. All of this is available for ongoing projects in Poland. We’re in a good spot financially to pursue our record CapEx program.

At the beginning of this year, we announced a capital budget of $60 million to $70 million. In the 10-Q we filed today, we have adjusted the CapEx estimate to a range of $50 million to $60 million. Almost all of that change is due to currency fluctuations that I discussed earlier. Our capital program remains essentially the same as we envisioned at the beginning of the year.

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

David Pierce

Good afternoon. I’m David Pierce, CEO of FX Energy. Thank you for taking the time to join us today. I have two main topics; first, the big picture for production; and second, some context for our drilling program.

Our annual production has grown steadily over the past six years. In 2011 production growth came from bringing the new KSK wells on line. This year we just about doubled KSK production and will bring Winna Gora on line.

In 2013, we expect to add new production from Lisewo-1, if Komorze-3 and Lisewo-2 are successful, they too should come on line in 2013. The outlook is for production growth this year and next year, and the year after that.

Our additions to production have overwhelmed the modest natural decline in our older wells. This should continue for the next few years at least. Zaniemysl production will decline this year by about 1 million cubic feet per day net our interest, but then should stay flat through the fall of 2013 at least.

We also expect a production decline at Roszkow in the fourth quarter this year, by about 2 million cubic feet per day net and Winna Gora is now set to come on at a lower rate than originally expected, just under 1 million cubic feet a day net rather than the previously expected 2.

Nevertheless, we expect our average daily production to grow this year and next. We expect total company-wide production to grow by about 10% this year compared to last year to about 13.2 million cubic feet per day average for the full year, compared to 12 million last year. Growth in 2013 and 2014 could be even stronger.

We want you to see the big picture for production, because the quarterly numbers are likely to be a bit mixed this year. Quarter-to-quarter there may be minor ups and downs because of the timing of routine maintenance shut-ins and the timing of additions and declines. Year-to-year, however, our production is growing and we expect it to continue growing over the next few years.

Now, let’s talk about the exciting stuff, drilling. First I want to thank you all of you for making this opportunity possible. We have a rig working on Kormoze-3 and a rig working on Kutno-2, the biggest well of my life. We are moving a rig on to the Frankowo location and should start drilling next week and we’ve still got three more wells to start this year after that.

We plan to test six wells this year, beginning with Komorze and Kutno, and next year should be even better. I thank you on behalf of the whole team here at FX Energy for helping us create this opportunity.

Earlier this week, we put out a news release naming the seven wells that we plan either to test this year or be drilling over year end. Lisewo southeast got pushed into next year, but we still have an impressive list of wells over the next few months with many more to come next year and that’s the point. The opportunity I’m talking about is not a one-shot do or die opportunity. It is a sensible plan of exploration with a steady drilling program.

Exploration is all about managing risk. We are pretty confident that we will drill some successful wells. We’re also pretty confident that we will drill some dry holes. Done properly, successful exploration is about making sure that the value of the successes outweighs the costs of the failures.

We don’t need commercial success with every well we drill. But the commercial successes do have to cover all our exploration costs and fund future growth. I think our current program will give us that outcome.

It would be fair to ask whether the outcome at Kutno and there is an enormous range of possible outcomes, would change my thinking about our exploration program. My answer is that the upside Kutno outcome could potentially dwarf everything else and would require a rethink about the scale of our future exploration. But then that’s not a bad outcome.

The downside on the other hand, could be a dry hole and that cost is already in this year’s budget. I personally think our exploration will yield significant success and growth over this year and next even without a win at Kutno. I don’t plan to talk about each of our upcoming wells but I would like to say a few words about Komorze-3 and about Kutno-2.

A month ago, on July 11, we announced that we were preparing to run a liner to the bottom of the Zechstein in the Komorze-3 well. About two weeks later, we announced that we had set the liner, cored into the Rotliegend and encountered gas shows. About two weeks after that, on August 6th, we announced that we had completed coring and logging and had a gas column of 31.5 meters and porosity up to 22.4%.

Next week, we plan to start a two-week production test of Komorze-3. So about three weeks from now, around the end of this month, we should have completed the production test and be able to announce the results.

This should include an initial estimate of the plateau production rate and an initial estimate of the recoverable reserves. At that point, we can determine whether the well appears to be a commercial success.

We will have accumulated and evaluated data over a period of about two months in the case of Komorze-3. My point is that it usually takes a while to determine whether or not a well might be commercial. We are pretty optimistic but not quite there yet.

At this point, the Komorze-3 well looks about like our Lisewo-1 discovery, perhaps slightly better in terms of combined gas column and porosity. The structure is smaller than Lisewo, so the reserves should be smaller than Lisewo that’s no surprise. What is a surprise is the better than expected porosity, so reserves could be somewhat larger than originally estimated.

Assuming Komorze-3 is commercial. We expect to begin producing it through the Lisewo facility in the second half of 2013, about a year from now. Meanwhile, we plan to start drilling Lisewo-2 later this year. If Lisewo-2 is successful, it too will begin producing next year through the Lisewo production facility.

Komorze-3 is one of five satellite structures surrounding last years Lisewo-1 discovery. We have estimated total recoverable reserves for the combined five structures at an estimated 60 Bcf.

We anticipate updating that estimate after we have the Komorze-3 production test data. Assuming Komorze-3 is commercial we anticipate drilling more of these satellite structures in the coming year.

Let’s turn now to Kutno. We just announced that the Kutno-2 well is at a depth of 6,210 meters and we are preparing to run a liner through the Zechstein, then drill and core ahead.

If we were in the Fences area, we could say with confidence that we would be drilling and coring into the Rotliegend horizon that lies just below the Zechstein. But we are a long way from the Fences. We are much deeper and this is very much wildcat territory.

If we see hydrocarbons and porosity as we drill ahead, we will probably run drillstem tests on one or more occasions. If everything looks good, we will log and complete the well and run a production test.

As with the Komorze well, we will issue news releases from time to time as we get information at each of these steps. If we find no reservoir or no hydrocarbons as we drill ahead that will shorten the process considerably.

A few minutes ago, I described the steps we have taken and will take with Komorze-3. All told, it will be about two months or so from the time we decided to run a liner at the base Zechstein to the expected announcement of production test results.

The process is generally the same with the other Rotliegend wells we’ve drilled. It doesn’t always go exactly like that, nature sometimes surprises us. But in general, these are the steps and each one usually provides a little more data or a little more certainty.

And at each step we report what we did, what we learned and what we expect to do next. This is roughly how we expect to proceed with our Kutno-2 well and with the other Rotliegend wells we plan to drill this year.

Kutno-2 is a very high risk well and we could be making a decision to plug the well in as little as two to four weeks. But it is also a very high potential well and with encouragement, we could still be testing two months from now.

As I said, we are deeper than any well we’ve drilled so far and we are quite a long distance from the known Rotliegend producing areas. Things could be quite different from expectations. We will keep you informed as events warrant. My advice is to stay tuned and stay calm.

I thank you again for your continued support. We will keep you apprised of new material developments and please remember that our exploration work remains subject to the usual risks and delays of this business.

Kelcey, we can take a few questions now.

Question-and-Answer Session

Operator

Certainly, Mr. Pierce. (Operator Instructions) We’ll go first to Kim Pacanovsky with MLV & Co.

Kim Pacanovsky – MLV & Co.

Hi. Good evening, everyone, and David, I’m very calm.

David Pierce

I got it, Kim.

Kim Pacanovsky – MLV & Co.

I have a couple of questions on your schedule this year and earlier in the year you all said that, it could be possible that we have results from like seven wells this year. And so I wonder if you could; number one, just talk about why the delay on Lisewo southeast? And then, if standing where we are right now today if you think Frankowo, Tuchola and Mieczewo will be drilled and tested before the end of the year?

David Pierce

Okay. Happy to do that. But I think, well, let’s start with your first question first. Lisewo southeast, we -- it’s just too quick to get it in. We are going to be looking at our new 3-D maps next month and we’ve concluded with our partner that we just can’t get a well up and running and started to drill before the end of the year. That said I do expect to see it fairly early next year.

Kim Pacanovsky – MLV & Co.

Okay.

David Pierce

It’s just a matter of too much too fast. In terms of wells to test, I think we are going to six wells test this year. Komorze-3, of course, we are there. Kutno and all of this is sort of barring the unforeseen.

Kim Pacanovsky – MLV & Co.

Sure.

David Pierce

But the Kutno also like, we ought to be testing it, excuse me, next month. We are about start drilling Frankowo and that's a pretty shallow well. That’s going to be just in the 2000 meters, 2400. I mean it’s pretty shallow. So, I don't have any real doubt about testing that well in the fourth quarter.

Mieczewo is scheduled to spud at the end of the third quarter and it’s a sort of a standard issue, Fences, Rotliegend well. We ought to be testing. If we get, spud it on time, we should be testing it just as we get to year end.

Tuchola, well, let me -- the other well on the Fences that we still have to start is Lisewo-2 and we don't expect to see that well start until close to the end of the year. So, clearly that one is going to be testing next year.

Kim Pacanovsky – MLV & Co.

Okay.

David Pierce

Tuchola is the other one that's one of our 100% well and we plan to start drilling that October 15. Now, I don't think we will be finished with the well this year. But if you remember we have two targets.

Operator

Mr. Pierce, we can no longer hear you, sir.

Kim Pacanovsky – MLV & Co.

Can you hear me?

Operator

We can still hear you.

Kim Pacanovsky – MLV & Co.

Hello. You can hear me, okay. So you all heard, I said, oh, oh. Yeah. Let me just send him a quick e-mail, I mean...

Operator

Yeah. Mr. Pierce, once again, we are still unable to hear you sir. We do see that your line is still established, however. Still I don’t know if you maybe hit your mute function. Ladies and gentlemen, please continue to standby, if we try to get the speakers. We’re connected. Mr. Pierce, please go right ahead, sir.

David Pierce

Okay, Kim.

Kim Pacanovsky – MLV & Co.

Hi.

David Pierce

We got cutoff and I don’t know how much of the answer I was talking about Tuchola.

Kim Pacanovsky – MLV & Co.

Yeah. You are -- you said October 15 spud and its one of your 100% wells and that about the last thing I wrote down.

David Pierce

Okay. Well we have two targets there, shallow gas target that is kind of connected to Old Apache Well. And we should be testing that around the end of the year. And then the deeper Devonian oil target will almost certainly fall in the next year. So that well is going to be on both sides of year-end.

And then finally, we have Plawce and that’s the tight sand well, we drilled last year. It is now supposed to be fracked and tested mid September.

Kim Pacanovsky – MLV & Co.

Okay. And the last -- I think the last time I spoke -- we spoke there was not a contract signed -- has a contract been signed for the completion?

David Pierce

I don’t have an answer for that.

Kim Pacanovsky – MLV & Co.

Okay.

David Pierce

I do know that we got the rig -- the service rig has been contracted.

Kim Pacanovsky – MLV & Co.

Okay.

David Pierce

And I can’t tell you whether the fracked and testing services has been contracted.

Kim Pacanovsky – MLV & Co.

Okay.

David Pierce

Tender has been issued.

Kim Pacanovsky – MLV & Co.

Okay. And then I just want to switch to production outlook, in the third quarter you have some maintenance and you guided to, I guess, $14 million a day net?

David Pierce

Yeah.

Kim Pacanovsky – MLV & Co.

And in the fourth quarter, you said that Roszkow is going to be down $2 million a day net.

David Pierce

Yeah.

Kim Pacanovsky – MLV & Co.

And Zaniemysl is going to be down $1 million a day net?

David Pierce

Well, Zaniemysl is already down most of that.

Kim Pacanovsky – MLV & Co.

Okay. Sorry.

David Pierce

So, I think impacted -- the fourth quarter impact, we are going to see is it carryover from third quarter. So, we will not have maintenance shutdowns. We do expect to lose about $2 million a day from Roszkow. We will gain just under $1 million from Winna Gora for part of the quarter and that’s the best I can give you right now.

Kim Pacanovsky – MLV & Co.

Okay. So, can you just walk me through the production history of Roszkow. It just seems like a big drop in quarter and I’m -- I guess little bit surprise by that.

David Pierce

You get a think about how we produce these wells. They are trend on and set to a number. It’s not a natural flow rate by enemies. This well -- all of our wells can be produced too much higher rates.

So the decision, it’s a decision. The decision has been made to draw production on that well by a fairly significant amount and that will happen at the time, we are doing the normal shutting. Now, Roszkow won’t get shutting but we will get cutback. And that is in response to -- now this is -- we have yet to see a water drive at Roszkow. All of our other wells have a water drive. Roszkow does not at this point, it release not that we can detect.

We may see a breakthrough and maybe just compartmentalized, and if we do then perhaps the production rate would go up again. However, we also if we don’t get a water drive, if we don’t see some pressure breakthrough then we will probably have to go to compression.

So, we’re setting the rate a bit lower to give us a little more time to see if water drive actually appears or not or if we have to go put compression on and I just -- we don’t know yet, which of those is going to happen.

Kim Pacanovsky – MLV & Co.

Okay. That’s all my questions for now. Thanks, David.

David Pierce

Okay.

Kim Pacanovsky – MLV & Co.

Wait a minute, let me just ask with all of these changes in production on and off for the fourth quarter. Can you give us a ballpark for the fourth quarter might look at for net production?

David Pierce

No. We gave you a full year and…

Kim Pacanovsky – MLV & Co.

Oh, yeah. Okay.

David Pierce

You’ve got first and second and we gave you an idea about first.

Kim Pacanovsky – MLV & Co.

I could do the math.

David Pierce

Okay. Here we go.

Kim Pacanovsky – MLV & Co.

Thanks.

Operator

We’ll move on to Jason Gammel with Macquarie. Mr. Gammel, your line is open. If you on the speaker phone please do press your mute function or pick up your handset.

Kevin Kwan – Macquarie

I’m sorry about that. This is Kevin Kwan calling in for Jason. My first question in regard to Kutno-2 well, has there been any confirmation of gas or H2S and the Zechstein and I guess any guidance on the timing of sitting impossibly hitting the Rotliegend Reservoir?

David Pierce

Okay. The answer your first question is no. We haven’t talked about gas, natural gas or H2S and the Zechstein. And I can’t give you an answer on when we might see something in the Rotliegend.

I think if you go through the remarks from the last 20 minutes, I made some effort to walk through what had happened at Komorze just as a possible guide, but Kutno was so far away and so much deeper that were in wildcat territory and we don’t honestly know what’s going to happen next. All I can suggest is that, we will put out new releases as appropriate, as we see or don’t see things drilling ahead.

Kevin Kwan – Macquarie

Okay. Thanks. And next questions in regards to Komorze-3. Now, that you guys have net coring and logging on the well complete, do you have an updated valuation, the resource size in a play?

David Pierce

No. We will -- we plan to put that after we do the production test. Because, you really need to see what the well actually is going to deliver, you need to do some bottomhole pressure measurement and that’s what the production test is all about. So around the end of this month, we will finish their two week production test and we expect to put our estimates out at that time.

Kevin Kwan – Macquarie

Okay. Great. Thanks for the color.

David Pierce

You bet.

Operator

Chad Mabry with KLR Group has the next question.

Chad Mabry – KLR Group

Thanks, guys. Appreciate the details in earning release but just kind of clarify here, do you expect to spend, it looks like a little over $12 million on seismic in Q3 and Q4?

Clay Newton

Yeah. Yeah. Yeah. We have several projects in the works at the moment that we will shortly be kicked off and hope to get finish between now and the end of the year.

Chad Mabry – KLR Group

Okay. And then kind of looking at drilling CapEx for second half of the year, what’s a good sort of ballpark range you expect to be in something, kind of, $25 million, $35 million?

Clay Newton

I think that’s the good range. I think will be closer to the top end of that range.

Chad Mabry – KLR Group

Okay. And then just kind of looking at the borrowing base here looks like that, gets an uptick to $55 million towards the end of Q3, do you intend on drawing that down et cetera?

Clay Newton

I don’t think we are going to need to draw it down, whether we do or not. I can’t say at this time.

Chad Mabry – KLR Group

Okay. I’ll get back in the queue. Thanks.

Clay Newton

Thank you.

Operator

Moving now to Daniel Mittag with Oppenheimer.

Daniel Mittag – Oppenheimer

Thanks, David. I have two questions. First question anything going on domestically in Montana?

David Pierce

Not at the moment.

Daniel Mittag – Oppenheimer

Okay.

David Pierce

We saw [Rosato] come out with the release of the couple of days ago saying that they didn’t plan to spend any more money there. Our partner there don’t seem very keen I’m doing anything else and we’re not keen enough to push that. To the best of my knowledge nobody seen anything that is very exciting, but we’re still evaluating, we’re still waiting, we live there. So it doesn’t cost us anything to continue evaluate in the work that we and others have done. But I’ve got to say that we’re not terribly optimistic at this point.

Daniel Mittag – Oppenheimer

Okay. And my second question was I noticed that you filed for possible preferred and debt offering, would that be something you’d used for some of these remaining wells?

David Pierce

We filed the shelf registration and actually replaces one that we had filed three years earlier that had expired just because they expired in three years. So all we did was replace that. We don’t have any present intention of going to the debt or equity markets at this point. We have enough cash, cash flow and borrowing capacity at this point to cover this year.

We will be redoing our bank credit facility and may have that in place before this year is out. But that’s we have been using that sort of regular. We just want to keep the shelf registration on files. That’s a handy thing to have but we don’t have any present need for it.

Daniel Mittag – Oppenheimer

Great. Thank you. I’ll turn it back to the queue.

David Pierce

You bet.

Operator

And we’ll now hear from Zachary Prensky with Little Bear Investments.

Zachary Prensky – Little Bear Investments

I have made. Yeah. Thank you for taking my question. Just maybe a technical clarification on the press release that you put out regarding Kutno. Are you waiting a day so to put out these releases or when you told that you kicked that level in the well, that’s literally real-time and so, when we face our calculations, our own internal model is based upon, what the press release says, happening today or there are one or two-day delay on when you releasing that?

David Pierce

I can’t give you a precise answer. But I think we reached 50 to 10 within the last 24 hours. So that’s about as real-time as we can get. But boy you can predict…

Zachary Prensky – Little Bear Investments

I’ll can that…

David Pierce

… if you can predict, your model will predict this in real-time, I -- that will be amazing.

Zachary Prensky – Little Bear Investments

I can’t predict.

David Pierce

This is a wildcat well zone.

Zachary Prensky – Little Bear Investments

Yeah. Very, very, well we have. But so to underscore your statement, I appreciate that the time that you took in the opening remarks to walk us through, the satellite and sort to give us some analog of timing here? And I don’t want to press you too much further, but in your estimation, only in estimation because of the deepness of the well, does it seem like the cementing job will take longer on this wells and on the one that you just finished?

David Pierce

It might take a little bit longer, but not very much. Because we are just going to run a liner, so it won’t go all away to surface. We just need to hang that that toward the bottom of the casing that we said at the top Zechstein. Yeah, the additional depth means it’s a little longer to get in and out of the hole but not right.

Zachary Prensky – Little Bear Investments

Right. Are there any additional safety features you need to put in place on this well to make sure that there is gas, that will blowout when you do the test over there?

David Pierce

We’ve got -- we really engineered this well thoroughly before we ever drilled it. The casing program, the mechanical program is all designed to cede anything that we could remotely imagine encountering in this well and I don’t have any concerns about that, about the blowout or anything.

Zachary Prensky – Little Bear Investments

Okay. Okay.

David Pierce

Again, (inaudible) and all those growing surprised but I think we are prepared for just about anything.

Zachary Prensky – Little Bear Investments

Okay. Okay. That’s fair. And then I guess, lastly, is there anything about where you encountered the source and where you stopped to put the cementing, anything on the wall that you’ve encountered to date that would change the geometric volume that potential reservoir size is or what the seismic basically what you encountered as you went down there?

David Pierce

No, no. We haven’t seen anything that would cause us to change our original view of what this structure looks like. That said, when we’re all done, we’ll certainly go back over all the seismic and we’ll kind of re-map everything and recalibrate but this is such a big structure that I don’t think we’re going to see any material change at least based on what we have seen so far. That’s about all I can tell you now.

Zachary Prensky – Little Bear Investments

Okay. That’s very fair. And then my last question is, the two other wells that were dug by the science institute in the 80’s picks up a potential secondary reservoir to meet the main one. I forgot the name of the churn there. Is this well capable after you test the main sands to go deeper or is that it here?

David Pierce

You tell me something I don’t know anything about. To the best of my knowledge, there hasn’t been a well drilled into the Rotliegend within a number of miles of this location. There was a well….

Zachary Prensky – Little Bear Investments

I’m sorry. I apologize.

David Pierce

There were wells some 30 years ago.

Zachary Prensky – Little Bear Investments

Right.

David Pierce

That almost, almost got there but well, I don’t know anything about the secondary reservoir or either of the two wells you’re talking about.

Zachary Prensky – Little Bear Investments

Right. I believe in the documents that you have put together when you’re looking for partner back in 2010. I believe that you pointed out the Polish Geological institute had gas shows at the Carboniferous, not exactly where we are trailing but to the north and north east. I’m just curios if that’s -- and I believe that fit for well.

David Pierce

That’s true. In a general way, clear across Poland, the Carboniferous is wetting. Its drier of the west and it’s oilier to the east and it is what these Rotliegend clear across Poland but there is nothing here in this particular area that would cause you to one look at the Carboniferous in particular. What makes this project attractive is the size of what we think is Rotliegend structure because that will have -- if its intact and if it’s got good reservoir properties, that will have accumulated any Carboniferous gas that seeps below it.

So we wouldn’t expect the need to go look at the Carboniferous itself and that would probably mean not the exploration project but I think anybody would want to undertake at that depth.

Zachary Prensky – Little Bear Investments

Okay. Thank you. You explained it perfectly. Thank you very much.

David Pierce

Okay. You bet.

Operator

Now, ladies and gentlemen, we have time for one additional question, now will come from Roger Liddell with Clear Harbor Asset Management.

Roger Liddell – Clear Harbor Asset Management

Good afternoon, gentlemen.

David Pierce

Hey, Roger.

Roger Liddell – Clear Harbor Asset Management

Couple of questions please. Pricing, gas pricing outlook, I know the Gazprom rate is teed to the brent price. In Poland, there at least was a subsidy which EU rules were forcing to gradually terminate that subsidy. So I’m not sure where -- how those two trade-off against one another. Could you clarify that situation?

David Pierce

I wish I could clarify it. The subsidy is sort of indirect and that the rates that utility regulator allows PGNiG to charge, determine more on its internal profit or not and that’s a function of the cost of Russian gas and the cost of its own domestic production and therein lies the subsidy. Its domestic production, of course, costs quite a bit less than its worth and a good bit of that ends up going to the consumer.

Now, the EU sees that as a subsidy. They don’t like it much and the government response to that has been to say well, let’s see if we can take our Gazprom contracts and sell them off to third parties and let those third parties become suppliers of natural gas, supplier of the Gazprom natural gas. That was their proposal at the beginning of this year. They didn’t propose to adjust their regulated price of their gas but they did propose to see if they could find some buyers to, in fact, take their position in the Gazprom contract. I have seen nothing happen with that.

It may be just an idea that they floated. So again to the best of my knowledge at this point, I don’t think they have come up with the solution or there doesn’t seem to be one is going into effect right now.

Roger Liddell – Clear Harbor Asset Management

All right. Thank you. There was change if they had a PGNiG. Is there any takeaway point that you have right now in terms of implications of the change?

David Pierce

Well, let me say that it is really common for the government to change the head of PGNiG at fairly regular intervals. Every year to a week, we see a change in top management. I don’t know there is a big takeaway there. We, of course, have met with upper management of PGNiG. We’ve talked about our exploration plans and what we see for the future and we feel like we’ve got pretty good reception and that’s about us for us I can take that right now.

Roger Liddell – Clear Harbor Asset Management

Okay. Next on the Lisewo Southeast, it’s a bit frustrating, have to push out this way. To be fair, I recall that the seismic on Lisewo-1 was extremely accurate. And the point maybe that that degree of accuracy is what we’re shooting for at this time but could you just characterize why it has been as long as it has since the 3D they gathered -- were gathered. I think it’s a year ago now that was completed.

David Pierce

On these large 3D grids, that we’ve shot kind of across the top half of our Fences concession, that’s about standard for us. Now we do have some smaller, we have one smaller one in particular that we’re about to get underway with that. I expect we’ll get process and interpreted a little bit more quickly but I think going back, maybe as much as six months I believe that we thought that August might be one would see new maps and in the event, I think it’s going to be early September now.

So we haven’t slipped out so much but enough that we’ve lost the possibility of getting the Lisewo Southeast well spudded this year. It’s just going to have to happen after the holidays.

And that, I’m saying now without having actually seen this seismic. I expect to see it in about three or four weeks and we will get it out and make it available not seismic itself of course but a map of the area in that Southeast extension as soon as possible after we get our hands on it.

I want to do everything at once like everybody else but in fact, I think we’ve got a pretty good program coming forward. And yeah, I’d like to see Lisewo Southeast drill earlier but next year is going to need its own share of wells. My primary goal right now is to try to maintain this pace. We’re going to end up testing about six wells this year and if we can maintain that pace in the next year and maybe increase it a bit that would certainly be just fine and hopefully we can do that particularly if we have some success at one or another of our 100% concessions.

Roger Liddell – Clear Harbor Asset Management

Okay. Thank you.

David Pierce

You bet.

Operator

Gentlemen, I’ll turn the conference back to you for closing our additional remarks.

David Pierce

I don’t think we have any additional remarks. I think I have said about as much as I know and some stuff that I probably don’t know. I thank you all for being with us today and as I say, we’re going to steady the wheel here going forward and we recognize the need to get news out as quickly as possible on these wells that we are drilling and that’s our number one priority, right after safety. Thanks again and we’ll talk to you in another quarter.

Operator

Thank you, Mr. Pierce, and again ladies and gentlemen, that does conclude our conference for today. We thank you all for your participation.

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