Mako Hydrocarbons (ASX: MKE) has executed a landmark farm-out deal worth up to C$220 million (A$210 million) with Canadian Pan Ocean, which is backed by Asian-based investors, that covers a major drilling program over its Duvernay Shale acreage in Western Alberta.
The drilling of up to 20 wells over three years will appraise and develop the Alberta Joint Venture's Duvernay Shale lands.
These consist of both Earning and Development wells with Mako being carried for the cost of Earning wells.
Mako's working interest will be reduced to 12.5% from 50% though it has an option to increase its working interest to 20%.
"The board and management of Mako have worked very hard to introduce a partner to assist in the early appraisal and development of Mako's prospective Duvernay shale acreage position," executive vice chairman Simon Owen said.
"Increasing industry activity and promising early results indicate that the Duvernay Shale has the potential to be one of North America's most promising liquids rich resource plays.
"We are delighted to introduce CPO as our partner to carry Mako for a portfolio of wells that we hope will demonstrate the significant potential of our land holding."
Mako will receive about C$1 million in returned costs and reimbursements.
Separately, CPO has entered into a conditional agreement to acquire the remaining 50% interest in the AJV acreage by corporate acquisitions of subsidiaries or affiliates of Transerv Energy (ASX: TSV), which holds 34%, and Tamaska Oil & Gas (ASX: TMK).
Farm-in and Drilling Program
The program, which will kick off in the second half of 2013, will comprise wells drilled by CPO to earn into Mako's 50% working interest as well as wells intended to develop and hold attractive lands.
In the first year, CPO will drill 2 vertical and 2 horizontal Earning wells. Both vertical wells will spud in the third quarter of 2013 while the horizontals will spud in the fourth quarter of 2013 with completion in the first quarter of 2014.
Thereafter, CPO has a rolling option to continue with a drilling programme for 2014 and 2015, subject to meeting certain minimum annual expenditure targets.
CPO must spend a minimum of C$75 million on the 2014 drilling program to be entitled to exercise its option to proceed with the 2015 drilling program, which has a minimum spend of C$100 million.
These include any Development wells that CPO may choose to drill on its Earned Blocks.
Mako noted that while the 2014 drilling program has not yet been confirmed, preliminary plans provide for five Earning wells and five Development wells.
CPO will carry Mako's costs for drilling and completing each horizontal Earning well and will earn 100% of Mako's working interest - subject to paying Mako a 1% royalty - until payout This will then convert the royalty into a 12.5% working interest.
In addition, CPO will also earn a 37.5% working interest over five, 640 acre sections of land.
For vertical Earning wells, CPO will earn a 35% working interest in four sections and Mako will retain a 15% interest.
These four or six section blocks of acreage are known as an Earning Well Block and any subsequent Development Wells drilled within the block are subject to Joint Operations provisions under the farmout agreement.
Additionally, for each Earning well, Mako will have an option to pay 7.5% of that cost to increase its working interest in the Earning Block to 20%.
For CPO to complete the farm-in over all of the existing AJV acreage, it will need to drill an estimated five Earning wells in 2014 and six Earning wells in 2015.
This would result in a carry of C$150 million for Mako.
The new JV is separate from the Black Swan Energy joint venture, which includes a free carried horizontal well expected in the fourth quarter of 2013 and a potential five well drilling program in 2014
Mako Restructure and Canadian Pan Ocean
This transaction will enable Mako to adopt the role of minority non-operator with vastly reduced overhead costs.
The transition phase will have an effective and accounting date of 1 March 2013, although implementation will be over a long time period.
Post this transition it is expected that the Board and Executive team of the Company will be re-shaped to better suit the ongoing 'non-operator' model.
This includes CPO taking on the majority of Mako's existing executives and staff as it transitions to the role of operator. CPO will also acquire Mako's infrastructure and intellectual property.
Canadian Pan Ocean is a Canadian private company that was created specifically to act as an acquisition and investment platform for opportunities in in the Western Canadian oil and gas industry for Asian enterprises, funds and banks.
The Duvernay Shale is an emerging world class liquids rich resource play that is the source rock for most of the conventional oil fields in Alberta that has attracted the attention of companies such as ExxonMobil (NYSE: XOM), Sinopec Daylight, Encana Corporation (TSE: ECA), Talisman Energy (TSE: TLM) and ConocoPhillips (NYSE: COP).
It came to prominence in 2010 and 2011 when more than C$2 billion was spent in land auctions for mineral rights and is widely considered to be analogous to some of the most prospect U.S. shale plays.
Wells drilled in the Duvernay have production at initial rates ranging from 900 to 1200 barrels of oil equivalent per day with high ratios of valuable natural gas liquids. Recent horizontal wells have yield between 100 barrels and 200 barrels of natural gas liquids for every million cubic feet of gas produced.
Importantly, significant activity has been carried out near Mako's acreage, which de-risks its acreage while giving it a better understanding of what it holds.
The farm-in paves the way for exploration and potentially development to be carried out across Mako Hydrocarbon's sizeable Duvernay Shale acreage of 89,449 gross acres.
In return, Mako will retain a meaningful interest in the acreage, allowing it to benefit from any upside potential from the work carried out by Canadian Pan Ocean, while lowering its overheads by removing the need to operate as an operator.
Looking ahead, notable catalysts for Mako include the drilling of the first vertical wells by CPO as well as the horizontal wells, which will give the Alberta Joint venture a keen understanding of their acreage.
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