Carrizo Oil & Gas, Inc. is an independent energy company which, together with its subsidiaries (collectively, “Carrizo,” the “Company” or “we”) is engaged in the exploration, development, production and transportation of natural gas and oil, principally in the United States. Our current operations are principally focused in proven, producing natural gas plays known as “shale plays” or “resource plays”. Our primary core area is the Barnett Shale area in North Texas (“Barnett Shale” or “Fort Worth Barnett Shale”), with a focus on Southeast Tarrant County, Texas. Through our wholly-owned subsidiary Carrizo (Marcellus) LLC, we are also actively seeking to establish a core area in another emerging resource play, the Marcellus Shale play in Pennsylvania, New York, West Virginia and Virginia. In addition to the Barnett and the Marcellus, we are active in other shale plays, including the Fayetteville in Arkansas, Barnett/Woodford in West Texas/New Mexico, Floyd/Neal in Mississippi, and the New Albany in Kentucky/Illinois. We also explore for, develop and produce natural gas and oil from traditional geologic trends along the onshore Gulf Coast area in Texas, Louisiana and Alabama, primarily in the Miocene, Wilcox, Frio and Vicksburg trends. Our other interests include properties in the U.K. North Sea.
We seek to grow our production through our 3-D seismic-driven exploratory and development drilling program and by applying proven horizontal drilling and hydraulic-fracturing (known as “fracing”) technology. From our inception through December 31, 2008, we have participated in the drilling of 723 wells (356.1 net) with an apparent success rate of approximately 84%. In the last five years, our apparent success rate has been 100% in the Barnett Shale. Since mid 2003, when we participated in drilling our first Barnett Shale well, we have participated in over 242 wells (173.6 net) in the Barnett Shale play. During 2008, we participated in 80 gross wells (62.8 net) wells in the Barnett Shale, including 66 wells that we operated. As of December 31, 2008, we had grown our proved reserves in the Barnett Shale to 432.1 Bcfe and our net average annual production in the Barnett Shale to 50.4 MMcf/d.
Since we began focusing a significant portion of our efforts in shale plays, particularly in the Barnett Shale, we have grown our reserves at a compounded annual growth rate (“CAGR”) of 48%, while simultaneously maintaining a CAGR on our production of 28%. During 2008, we added a record 180.6 Bcfe to proved reserves, or a reserve replacement ratio of 705%. Please read “Oil and Natural Gas Reserve Replacement” for more information on our reserve replacement ratio. This reserve replacement ratio was achieved in spite of record production of 25.6 Bcfe, a 47% increase from 2007, including 22.4 Bcfe from wells that we drilled and operated. At year-end 2008, our proved reserves were approximately 78% natural gas and approximately 22% crude oil.
Our Board of Directors has approved an initial capital and exploration budget of $105.0 million for 2009. This budget reflects our strategy of controlling capital costs and maintaining financial flexibility in light of current economic conditions and represents a substantial decrease from our capital expenditures of $548.8 million, $224.9 million and $187.3 million in 2008, 2007 and 2006, respectively. We currently expect to spend the majority of our capital and exploration budget for 2009 on drilling in our Barnett Shale core area. Where possible in order to maximize our liquidity, while increasing profitability of our projects, we currently intend to defer certain fracing, completion and pipeline costs because we currently expect that the costs of these services will decline significantly over the remainder of 2009. We intend to finance our 2009 capital and exploration budget primarily from cash flow from operations. Other available sources of funding include our senior credit facility and proceeds from the possible selective sale of non-core assets.
Business Strategy
Measured Growth Through the Drillbit
Our objective is to create shareholder value through the execution of a business strategy designed to capitalize on our strengths. Key elements of our business strategy include:
•Control Capital Costs and Maintain Financial Flexibility. In response to reduced demand for natural gas and lower natural gas prices as a result of the current economic downturn and the current cost of accessing the capital markets, we have reduced our capital and exploration budget for 2009 to $105 million, and we are striving to maintain our financial flexibility and a positive production growth profile. Any further deterioration in commodity prices may cause us to reduce our capital and exploration budget for 2009 even further.
•Grow Primarily Through Drilling. We pursue a technology-driven exploration drilling program. We generate exploration prospects through geological and geophysical analysis of 3-D seismic and other data. Our ability to successfully define and drill exploratory prospects is demonstrated by our exploratory drilling success rate in the onshore Gulf Coast area of 85% over the last six years and our 100% drilling success rate in the Barnett Shale area since inception in 2003. During 2009, we plan to drill approximately 45 gross (30.0 net) wells in the Barnett Shale area, and three gross (1.0 net) wells in the onshore Gulf Coast area. We also expect to complete 44 gross (44.0 net) wells in our Camp Hill Field. We have planned approximately $105.0 million for capital expenditures in 2009, approximately $90.0 million of which we expect to use for drilling activities, including $85.0 million in the Barnett Shale area and $3.0 million in the onshore Gulf Coast area. In addition, we currently expect to participate in 12 gross (4.0 net) Marcellus Shale play area wells in 2009, including eleven vertical wells and one horizontal well, all of which we currently expect will be funded by Avista under our joint venture agreement with them.
•Focus on Areas Where We Have Experience and a Technical Advantage. We focus our activities in the industry-proven Barnett Shale in which our wells have generally longer-lived reserves and where our management, technical staff and field operations teams have significant experience and, we believe, a technical advantage derived from operating over 150 horizontal wells. We are attempting to leverage this advantage in other shale trends, principally in the Marcellus Shale, by utilizing the knowledge and expertise of our personnel and partnering with Avista, a joint venture partner that has significant financial knowledge, expertise and capital. We plan to focus a majority of our near-term capital expenditures in the Barnett Shale area, where we have acquired a significant acreage position and accumulated a large drillsite inventory, and in the Marcellus Shale, where our joint venture currently controls over 230,000 acres and where we currently expect Avista to fund substantially all of the joint venture’s 2009 capital and exploration program. We also intend to continue to explore in the onshore Gulf Coast area, where members of our staff have been exploring for over 30 years.
•Maintain a Conservative Exploration and Development Portfolio. Recently we have sought to more heavily weight our drilling program toward projects with relatively lower risk and moderate potential, such as our development drilling in the Barnett Shale, than to projects that have relatively higher risk, but substantial upside potential such as our onshore Gulf Coast projects.
•Manage Risk Exposure by Market Testing Prospects and Optimizing Working Interests. We seek to limit our financial and operating risks by varying our level of participation in drilling prospects with differing risk profiles and by seeking additional technical input and economic review from knowledgeable industry participants regarding our prospects. Additionally, we rely on advanced technologies, including 3-D seismic analysis, to better define geologic risks, thereby enhancing the results of our drilling efforts. The use of 3-D seismic analysis does not guarantee that hydrocarbons are present or, if present, that they can be recovered economically. We also seek to operate our core projects in order to better control drilling costs and the timing of drilling. Our joint venture with Avista in the Marcellus Shale is a recent and prominent example of this strategy.
•Retain and Incentivize a Highly Qualified Technical Staff. We employ over 36 natural gas and oil professionals, including geophysicists, petrophysicists, geologists, petroleum engineers and production and reservoir engineers and technical support staff, who have an average of over 20 years of experience. This level of expertise and experience gives us an in-house ability to apply advanced technologies to our drilling and production activities, including our extensive experience in fracturing and horizontal drilling technologies. Our technical staff is granted stock-based awards and participates in an incentive bonus pool based on production resulting from our exploratory successes.
OPERATING APPROACH
Our management team has extensive experience in the development and management of exploration and development projects in the Barnett Shale area and along the Texas and Louisiana Gulf Coast. We believe that the experience we have gained in the Barnett Shale area, along with our extensive experience in fracing and horizontal drilling technologies and the experience of our management in the development, processing and analysis of 3-D projects and data in the Barnett Shale and onshore Gulf Coast, will play a significant part in our future success.
In our onshore Gulf Coast area, we generally seek to develop prospects consistent with our expertise and based upon our analysis of 3-D seismic data. We currently own the rights to over 8,527 square miles of seismic data in our Gulf Coast area, together with the right to an additional 350 square miles as a result of a data swap with a leading seismic multi-client library provider. After developing a prospect and obtaining the leasehold rights on the acreage where the prospect is located, we generally seek to farm-out a portion of our interest in the prospect and associated leasehold acreage on a promoted basis to reduce our risks and to control our costs.
We generally seek to obtain lease operator status and control over field operations, and in particular seek to control decisions regarding 3-D survey design parameters and drilling and completion methods. As of December 31, 2008, we operated 218 gross producing oil and natural gas wells. We generally seek to control operations for most new exploration and development in the Barnett Shale area, taking advantage of our technical staff experience in horizontal drilling and hydraulic fracturing. During 2008, we operated 66 of the 80 gross wells that we participated in drilling in the Barnett Shale.
We emphasize preplanning in project development to lower capital and operational costs and to efficiently integrate potential well locations into the existing and planned infrastructure, including gathering systems and other surface facilities. In constructing surface facilities, we seek to use reliable, high quality, used equipment in place of new equipment to achieve cost savings.
Employees
At December 31, 2008, we had 104 full-time employees. We believe that our relationships with our employees are good.
In order to optimize prospect generation and development, we utilize the services of independent consultants and contractors to perform various professional services, particularly in the areas of 3-D seismic data mapping, acquisition of leases and lease options, construction, design, well site surveillance, permitting and environmental assessment. Independent contractors generally provide field and on-site production operation services, such as pumping, maintenance, dispatching, inspection and testing. We believe that this use of third-party service providers has enhanced our ability to contain general and administrative expenses.
We depend to a large extent on the services of certain key management personnel and the loss of any could have a material adverse effect on our operations. We do not maintain key-man life insurance with respect to any of our employees.