Some interesting and surprising news broke on January 17th when Exxon Mobil (NYSE:XOM) announced that it would be doubling down on its exposure in Delaware Basin in the Permian. In what is a multi-billion dollar deal with the wealthy Bass family, the company decided to acquire some key properties that it believes will increase its prospects down the road. In this piece, I decided to dig into the details associated with the transaction and give my thoughts on what it means for investors in the firm moving forward.
A look at the transaction
According to a press release issued by Exxon, the firm has struck a deal with the Bass family of Texas in which it has agreed to buy up around 275,000 acres of land, 250,000 of which are located in the Permian Basin. Collectively, these properties produce 18,000 boe (barrels of oil equivalent) per day, 70% of which they classify as "liquids" (so oil and natural gas liquids combined, most likely) and whose reserves come out to 75% liquids.
As of the time of this writing, Exxon's existing properties in the Permian produce around 140,000 boe per day (on a net basis) but the amount of resource in place is only around 2.6 billion boe. With this transaction, management will be adding 3.4 billion boe to its books, more than doubling its stake in the region on a boe basis.
The price for these properties could change over time and full details of the plan have not been made public but what we do know right now is that Exxon is paying $5.6 billion in the form of its shares, which boils down to about $22,400 per net acre. However, depending on how the development of these assets come along, the firm may have to pay out up to an extra $1 billion in contingent payments over a period of time ranging from 2020 through, potentially, 2032. This wouldn't necessarily be a bad thing, though, because any scenario where Exxon has to pay out these contingent payments likely means that the firm is getting good results from the acquired acreage (technically, they are acquiring the Bass family's companies that hold the underlying acreage).
Why the Delaware Basin of the Permian?
For those who don't know a lot about the Permian, there are two major divisions of it that you can look at; Midland and Delaware. As you can see in the image below, the Delaware region is located in the western portion of Texas, as well as in New Mexico (Exxon's acquisition is for properties located in New Mexico), while the Midland portions stretch toward central Texas, just north of the Eagle Ford.
*Taken from the EIA
With so many other regions the company could have chosen to invest in, a good question is why did they choose the Delaware Basin? Well, in the image below, you can see how the picture looks like in the Delaware from an average well drilling and completion cost compared to some other areas covered by the EIA (Energy Information Administration). Based on their findings, total drilling and completion costs have been coming down (the data ends in 2015 but almost certainly extended into 2016 as well) over the past few years, with the Permian's average well cost finally dipping to below $6 million for the Delaware Basin. This is actually more than $1 million cheaper than the Permian's Midland region, which happens to be the most expensive of the major regions covered by the EIA in its analysis.
*Taken from the EIA
Interestingly, however, the Delaware Basin is not the cheapest on a per-foot basis. That designation goes to the Bakken which, as you can see in the image below, undercuts the Delaware Basin on a per-foot basis in terms of both drilling cost and completion cost. That said, at a time when the energy environment still carries risk and has a ways to go before being truly healthy again, firms like Exxon are right to be looking at absolute cost, not costs per foot.
*Taken from the EIA
Now, there are some up sides and some down sides associated with Exxon's choice. While the company got some of the cheapest properties in the country from a drilling perspective, the Permian as a whole is not known to be a particularly efficient place to extract oil and natural gas from. Take, for instance, the table below, which compares the decline rates, month-to-month drilling productivity improvement rates, and rig production rates of the Permian as a whole (data for the Delaware Basin itself is not broken out by the EIA unfortunately) to the Eagle Ford, Bakken, and Niobrara, the other three big onshore oil-producing regions in the US.
*Created by Author
Based on the table, one benefit of the Permian is its low decline rate, wherein it outperforms the competition by seeing product depleted by just 5.2% each month, but the fact of the matter is that, with each rig operating resulting in production of 660 barrels of oil per day, it's only two-thirds as efficient as the Bakken and even worse compared to the Niobrara and, especially, the Eagle Ford. What's more is that this picture will likely only worsen since the monthly improvement rate for the Permian is just 1.2% vs. 1.6% to 2.3% for the other regions.
Overall, I must say that Exxon's decision to buy up these assets from the Bass family makes a lot of sense to me and is what I would say is a brilliant step in the right direction. Management seems to be acquiring a nice set of assets with low production costs and low decline rates in a prime region for oil and natural gas production. There are, unfortunately, some downsides with the Permian, such as the low production per rig and the low monthly improvement rates, but at a time when management is likely focusing on keeping costs down in order to maximize profitability, this is a small price to pay.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.