SOURCE: VantageWire.com — Timing is everything in the investment world of junior oil and gas. With 16 Montney oil wells on deck over the next 6 months, High North Resources [HN:CA] is on the cusp of a major transformation. Since the last time the Bottom Line Report covered this blossoming junior, the company has added more land in the prolific Peace River region and now the company has over 160 drill locations right next to a major player, which is producing over 10,000 BOE/d in the area. Their opportunity to repeat their neighbour's success is well underway.
Over the next two quarters, there are two highly probable scenarios for High North: Either they become a respectable producer with 1,600-3,200 barrels under its belt; or they become a high impact takeout target for a much larger neighbour. For the sake of looking at the opportunity as a whole, we're going to focus solely on the former. Waiting for a take-out isn't half as interesting as watching a junior grow.
Among the impact players in the region is Long Run Exploration [LRE:CA] whom at a market cap of over $550 million dwarfs the current size of junior neighbor High North (at just over $31 million). Long Run grew to its current size through a strategy that High North is in the process of replicating now: steady growth, one low-risk well at a time.
High North has already drilled 3 successful wells, and plans to launch a 16-well program. Flow rates on those wells are due very soon, and could significantly impact the outlook for the upcoming 16 wells to be drilled over the next 6 months.
MONEY IN THE MONTNEY
Long Run isn't the only present-day producer that took this route along Montney's oil fairway. Other similar parties in the region include Donnycreek Energy [DCK:CA], and to a deeper but similar geophysical extent RMP Energy [RMP:CA]. What all of these companies have in common is that their bread and butter came from this same Montney region, and that all of them have share prices above $2.80.
Of that grouping, Donnycreek is the closest to where High North should be at the end of its 2014 drilling campaign. Currently producing 1,400 BOE/d, Donnycreek is a convenient comparable to use when looking at the big picture.
Over the course of 2014, Donnycreek estimates its production to average 1,700 boe/d.
Now when you look at High North's expectations for 2014, they could be playing catch-up to an entity like Donnycreek faster than you know it, by using the Long Run strategy.
The formula that worked so well for Long Run over the last 18 months has been to chip away at their Montney asset, one horizontal well at a time. Relatively cheap and repeatable, this method helped to grow Long Run's Peace River production to more than 10,000 BOE/d.
According to Long Run's most recent presentation, current horizontal Montney oil wells designed using a 25 stage frac and completed with a cemented liner have an average IP30 of 250 BOE/d and IP90 of 200 BOE/d. With a $2 million on-stream cost, payouts come in at approximately 12 months and estimated ultimate recovery's at 175 mboe.
Over half of that production comes within a fairway that Long Run is producing 6,000 BOE/d out of. This stretch is central to Long Run's initial two-year initial development plan that includes 90 horizontal Montney wells.
Right next to and on top of the SW portion of that fairway sits High North's most valuable property. When looking at the area map, High North is completely surrounded by land that Long Run has already purchased. Long Run's desire to pick off the surrounding area hints at a definite interest in the real estate High North is sitting on.
As well, looking at Long Run's actions to date, it's easy see that they believe there's plenty more production to come from the area. To accommodate the growth, Long Run has already built two 5,000 bbl/d oil facilities at Normandville and Girouxville.
In the meantime, High North's 16-well program gives the junior a chance to pick some profitable low-hanging fruit. Each drilling location offsets Long Run's established production.
If each well is expected to get an average production between 100 to 200 BOE/d, based on Long Run's model, than that would put High North's production after the 16-well campaign somewhere in the ballpark of 1600-3200 BOE/d.
Which brings us back to a Donnycreek comparable. Donnycreek's current 1,400 BOE/d has given them a market presence, and a share price north of $2.97. Asking the same valuation for a company like High North is a completely reasonable request.
THE BOTTOM LINE
Despite a recent rise in share price, High North is still a long way off of realizing its true market potential. Drilling $2 million wells with a payout period of around a year, is a great way for a junior to build itself a nice reputation. Using the Long Run strategy for growth is a proven way to gain momentum and production. There's ample reason to believe that a group like High North could catch-up to other regional players, such as Donnycreek or RMP Energy by year's end.
At the core of the High North story is the gargantuan land position in an already recognized oil window. Companies south of a $50 million market cap don't typically control this much valuable real estate. Though there may be others with larger Montney land positions, many of those sections are in the gas window-High North's are mainly oil.
As Long Run closes in on 100 Montney wells, High North can safely ride the success wave that Long Run started. After this 16 well program is completed, that'll put High North's production in the ballpark of the important 2,500 boe/d threshold. At that number, companies can typically self-finance $4-$6 million wells without having to water down equity or run up the company debt level. For $2 million wells, it's even easier to pay for these themselves.
It's important to note that the High North story has a Duvernay upside. They hold the rights to the deeper formation that is quickly becoming a prized possession of many of the industry's giants. PetroChina shelled out nearly $10,000 per acre to JV with Encana on the Duvernay back in 2012, and Chevron went even further by spending over $14,000 per acre on Duvernay rights in 2013.
So even if Long Run doesn't take out High North for the Montney right away, there's still a number of big caps that could come knocking to either buy out or farm-in on the junior's 120,000 acres of Duvernay.
In the meantime, it'll be interesting to see what develops as High North builds its production from 0 to 2,500 boe/d. Crossing that threshold is a major game changer in the junior oil space. It can mean the difference between being a $0.50-$0.75 stock, and a $2.50-$4 stock. Where High North is when it exits 2014 is still up for grabs, but they're sure headed in the right direction.
G. Joel Chury
Originally for the Bottom Line Report