Range Resources - Oil and Gas on a Grand Scale

In January 2010 we wrote our initial Value Proposition for Range Resources (LON:RRL ASX:RRS). Our focus at that time was on the transformational news that drilling at the North Chapman Ranch oil & gas prospect in Texas had led to a commercial oil and gas find.

So six months on, we thought it would be timely to rework our original Value Proposition, so as to take in all the developments that have happened since then. The Range Resources portfolio now includes:

 

 

1. a 25% stake in a Texan well from which drilling has identified a commercial oil and gas find and production of oil and gas has commenced.  Also a 20-25% stake in future wells drilled on the Texan licences, which were supplemented with additional acreage in late 2009;

2. a 13.65% stake in east Texas Cotton Valley with an existing shallow oil reservoir potentially containing up to 4-6 million barrels of oil and where an additional 20 well drill programme is planned;

3. a 10% interest in three Trinidad licences where existing production is scheduled for material increase and where there is significant potential to expand the known reserves;

4. a 50% interest in Georgian Oil & Gas licences together with Strait Oil & Gas, on which the company completed a 410km seismic acquisition operation in March 2010. This has been followed up by interpretation and processing of the seismic data, targeting substantial oil prospects. Initial results point to a number of drillable targets;

5. a 20% interest in Puntland, Northern Somalia onshore oil licences estimated to contain up to 20 billion barrels.  In conjunction with operator Africa Oil, drilling on  the Dharoor prospect is planned for Q4 2010 and on the Nugaal prospect shortly after; 

6. active engagement re Puntland offshore oil/gas exploration licences with plans to secure a farm in partner to help fund the exploration programme going forward.

Texas (USA) – Oil and Gas Discovery:

After reaching target depth with the Smith #1 well in the North Chapman ranch area of Texas in November the markets had to wait until 21 December 2009 before receiving confirmation of a commercial oil and gas discovery.

Initial test results showed flow rates of 2.4million cubic feet of gas and 191 barrels of oil per day. Sales of gas and oil from the well commenced in February 2010 and based on that event, Range made the significant move from explorer to producer.

Data from an independent report on the Texas Reserves was released on 11th May showing gross commercially recoverable reserves of 215Bcf of natural gas, 15.9mmbbl oil and 15.5mmbbl of natural gas liquids.  Of these figures, approximately 20.7%  is attributable to Range , which provided an independent PW10 DCF (Discounted Cash Flow) valuation on Range’s net interest of $226mn (A$289million or £157million – roughly amounting to 27c or 15p per Range share, subject to comments below re P1, P2 & P3).  The 20.7% stake being derived from 25% of Smith #1 and assuming 20% of all remaining and Range thus having 25% of proved reserves and 20% of possible and probable.

At this stage, approximately 15% of reserves are classed as Proved (P1), 15% as Probable (P2) and 70% as Possible (P3).  The markets naturally look for as much P1 as possible and will generally take a reducing level of assurance from P2 and P3.

The Company is now working to upgrade the reserves from P3, increasing P2 and P1.  The first stage in this process was the temporary suspension of Smith #1 production to enable fracture stimulation to be undertaken. Smith #1 has been producing from only one of three zones.  With fracture stimulation undertaken it is expected that flow rates could increase substantially, with 7-10million cubic feet of gas and 600-800 barrels of oil per day muted.  This would give up to a four fold uplift from the current flow rates of 2-3 million cubic feet of gas and 200 barrels of oil per day. Those hoping for a favourable outcome in the fracture stimulation process will have been encouraged to read the company's 28th June announcement confirming the well has now been successfully stimulated.  In due course the updated flow rates will be published and there is an expectation of significantly increased revenues from this well going forward.

In May 2010, the well partners spudded an appraisal well, Russell Bevly #1. This well is located some 570 km North Northwest of the Smith #1 well and in their 28th June 2010 announcement, the Company confirmed Target Depth had been achieved (and slightly exceed at 14,222ft) and that mud logs confirmed the presence of hydrocarbons. If successful this second well will not only add additional production volumes but also further enhance the understanding of the reservoirs – essential for the purpose of upgrading the class of the reserves.

Range has a 20% interest in Russell Bevly #1, compared to 25% on the Smith #1 well.  The difference is due to a “back-in” clause enabling the original Smith #1 participants to take a 5% stake in subsequent wells.  On 30th June the company announced in an update that after drilling to the required depth of 14,225 feet, the operator concluded that open hole logging operations at Russell Bevly #1 indicated the presence of 130 ft of net pay, exceeding the thickness of net pay encountered at Smith#1.

It’s worth noting that Range incurred expenditure of just $1.3mn in the drill costs and costs to production on Smith #1 well, a figure they expect to recover within months from their share of production and sales revenues. Budget drill costs for the Russell Bevly #1 well were approximately $3.8million of which Range were responsible for $760,000, an amount they paid upfront.

To date Texas has been a source of enormous speculation.  The original target of the Smith #1 well was to find a minimum of 80Bcf (billion cubic feet) of gas and they have found significantly more than that with potentially 215 Bcf! They were also hoping to find some oil and actually found up to 15 million barrels and additionally, 15 million barrels of natural gas liquids. 

There is still work to be done in moving more of the reserves up from the Possible into the Probable and Proved categories, but with the Commercial status of this discovery now confirmed, the focus must now be on cranking up revenues. Success with Russell Bevly #1 and a positive result from fracture stimulation on Smith #1, would see those revenues multiply in short order, leading us to believe that Texas may well end up as a company maker in its own right.

East Texas Cotton Valley  - Acquisition

Complementing the North Chapman Ranch projects, Range recently announced the acquisition of a 13.65% stake The East Texas Cotton Valley Prospect, approximately 1,570 gross acres encompassing a recent oil discovery in Red River County, Texas.  This acquisition did not break the bank costing just $254,000.  What it does do however is diversify the Texas income generating portfolio, with Range able to participate in the drilling of a horizontal well to develop the identified shallow oil reservoir where gross recoverable reserves could amount to some 4-6 million barrels of oil.  It should be remembered that at this prospect oil has laready been discovered, and this additional well is an appraisal well which replaces the first horizontal well damaged during completion.  In other words, Range has bought into a prospect where there is known to be oil.

Moreover, should the appraisal well prove successful, this would trigger further development at East Cotton which could ultimately require in excess of 20 additional wells, with a targeted average recovery of up to 220,000 barrels of oil.  Given Range’s 13.65% interest in the venture, at $70 per barrel oil, this would amount to gross revenues for the company of around $2million per well. 

Trinidad - Onshore

On 12 July, Range also announced the signing of a Heads of Agreement to acquire a 10% interest in three production licences in producing onshore oilfields in Trinidad, together with significant location onshore drilling operations.  This agreement costs $2million on signing of the definitive Agreement and a further $2.25million on formal completion of the acquisition. 

Currently the fields are producing 700 bopd, but in line with the Range philosophy of buying assets with scalable potential, they believe that, based on known reserves, it is possible to increase that output to 3,500 bopd within 36 months . That would amount to an annual revenue attributable to Range (before costs etc) of somewhere in the region $9million, based on constant production @ $70/barrel oil. 

Known Proved and Probable reserves amount to 4.8 million barrels and undeveloped Prospective resources of 20 million barrels. The Proved and Probable reserves alone would equate to an attributable value to Range (@ $70 oil) of $34million (before costs of extraction etc). 

But it doesn’t end there! There is further significant potential from deeper formations hosting substantial producing reserves on adjacent blocks including one reservoir hosting some 30 million barrels. 

The fact that Range is carried on initial development expenditure is a bonus and ultimately, with the successful drilling of deeper formations, the company has an ultimate target of increasing the production attributable to Range, to some 800-1,000 barrels .  This, at $70 oil, would amount to potential gross revenue attributable to the Company of $20 – 25million per annum.

Given the scalability of production and also the potential for material resource expansion on the license area, the payback on Trinidad could be quite significant, especially when related to acquisition cost of just $4.25million.

Puntland (Northern Somalia) – Oil exploration (drilling programme implementation)

Onshore

Here, Range Resources has a 20% interest with Africa Oil Corp (TSX:AOI) as operator holding 55%  and Lion Energy 15%. The Joint Venture Agreement covers the Dharoor Valley block and the Nugaal Valley block.

In a recent announcement, Africa Oil confirmed that Red Emporer Resources would become an additional farm in partner and subject to conditions outlined, will take an initial 10% interest, with potentially a further 10% available subject to confirmation by the end of August 2010.  This looks to be further validation of the prospectivity of the Puntland licences, particularly since Red Emporer is committed to pay a disproportionate share of the first well drilling costs.

Puntland is an autonomous State within Somalia, so once you have factored in the (not insignificant), geopolitical risk premium, we can move on to consider the following. The State has made some significant progressive steps in recent years. Elections have been held in Puntland since 2001 and the recent (Jan 09) elections passed peacefully. Range makes a firm point that it has a constructive relationship with the Puntland Government.

Evidently the Puntland Government is fully aware of the importance of Foreign Direct Investment and the need to address its security issues. The recent appointment of a Kuwaiti security firm to protect those operating in the country was regarded as significant evidence to that effect. Range has been trying to progress the Puntland programme for some years now. So when news was released on 14 December 2009 confirming that the Company, Africa Oil and the Puntland State of Somalia, had reached agreement over modification to the Production Sharing Agreements, attention started to return on this project. The revised agreements were still subject to Parliamentary ratification but this was achieved and confirmed via a news release on 21 December 2009.

The modifications allow Africa Oil to drill one hole in each of the Nugaal and Dharoor Valley exploration areas or two in the Dharoor Valley. In consideration of the amended agreements the parties agreed to relinquish 25% of the original agreement area in January 2010 and make a $1million payment to the Puntland government on each commercial discovery within each of the exploration blocks. Other terms included enhanced environmental safety measures and a one off payment by Africa Oil of $1,050,000 for development of infrastructure.

Africa Oil stated its intention to commence operations immediately and the announcement of rig mobilisation looks likely in the near term, with a four month programme leading up to spudding the first well in Puntland for 16 years.  Further indicative information can be found in this recent Boardroom Radio interview with Peter Landau.

Also worthy of mention is that Africa oil has reviewed data prepared by the Puntland government and Range Resources. They have reinterpreted existing seismic data and have drill targets identified as outlined in the Company’s latest quarterly report. The effort taken by the partners to identify drill targets will hopefully pay dividends - we will see when the drill starts turning.

As part of the Joint Venture Agreement, Africa Oil committed to paying the first $22.5m of exploration expenditure within each block (Nugaal and Dharoor). With respect to Dharoor in the fourth quarter of 2008 Africa Oil satisfied this requirement and going forward Range will be required to contribute proportionally against its 20% participation. With respect to Nugaal, Africa Oil has spent $4.3 million of the $22.5m sole funding commitment (to end September 2009).

Puntland is considered to be within world class prospective territory, notably due to the continuation of the prolific Yemen Rift System found across the Gulf of Aden. Reflecting this geology and from the work undertaken to date, the onshore campaign is targeting a potential of 2 - 10 billion barrels of oil, within each basin.

Offshore

Range has completed an offshore seismic/well database and through this has identified reservoir and source rock targets and the Company are in discussions with joint venture seismic partners to move this forward. It is anticipated that, subject to Puntland Government approval, joint venture partners will be agreed and an offshore licensing round undertaken.

In his recent Boardroom Radio  interview Peter Landau seemed optimistic that the offshore programme will be agreed with the Puntland Government in the near term and new partners will be confirmed to progress this important opportunity.  It should be remembered that Puntland offshore offers the potential for a multi-billion barrel reserve on its own, yet, the offshore programme is often overlooked.

Georgia – Oil exploration (seismic programme completion/drill target definition)

Within Georgia, Range are targeting an inferred 383 million barrels of oil and 70 billion cubic feet of gas on just one block within a highly prospective area adjacent to producing fields and with highly encouraging seismic just completed. On 9th July 2009 the Company announced an agreement with Strait Oil and Gas regarding the acquisition of a 50% interest in two Georgian Oil and Gas exploration blocks (Blocks VIA and VIB).  The Georgian prospects covered a substantial licence area with the two blocks representing a contiguous area of 7,000 square kilometres (or over 10% of the surface area of Georgia).

The blocks were previously the subject of extensive exploration, particularly during the Soviet era and are considered to be highly prospective for both oil and gas discoveries. Fourteen prospects have been identified on Block VIA with a gross unrisked potential of more than 380 million barrels. To earn their 50% interest, Range were committed to completion of Phase II of the PSA applicable to the specific blocks, consisting of 350km of 2D and 3D seismic and well selection.  The seismic work was succesfully completed as per the company’s market announcement dated 8 April 2010. 

Within the quarterly update on 30 April 2010, we received confirmation that the seismic data was being processed and interpreted by RPS Energy with the aim of identifying drill targets by Q3 2010.  That said, the announcement also noted that drillable targets were already indicated in three areas of the Blocks and we understand that overall, 25 drilling target zones were identified. The announcement also noted the possibility that two choices existed for the upcoming drill programme including the possibility of attracting farm-in partners to joint fund drilling or to progress the targets on a 50/50 basis as currently stands. 

Evidently the potential value here is causing Range Resources to think carefully about next steps; and the analysis continues in the markets with investors speculating that there may be some corporate activity relating to the Georgian assets in the foreseeable future. The ‘quiet’ speculation and excitement regarding Georgia is understandable based on the exploration data.  Moreover Georgia benefits from a democratically elected government and a business environment and legal system that encourages and protects foreign direct investment.

Georgia itself is an existing oil and gas producer with the Samgori field holding approximately 200 million barrels of recoverable reserves. In addition three major pipelines cross the country supporting the transportation of hydrocarbons.  There are many any old wells dating back from the Soviet era which were all previously shut in; but the company believes many of them could potentially be re-entered.

Value Proposition:

MiningMaven considers there are two key areas, which should impact on how the market looks to value the Company going forward: 

1. Earnings potential of assets,
2. Capital appreciation potential of assets.

Range Resources now has a fledgling revenue stream from the Texan operation and if all goes to plan, these earnings could grow materially - even exponentially -  which, in addition to providing a healthy income for the company, could also leverage the capital value of those assets quite substantially.

These earnings could, of course, be directed towards further exploration of the Georgia and Puntland prospects, where there exists significant opportunity to develop highly valuable assets.

Added to this, the Company has now secured a stake in Trinidad Licenses, adding scalable production, incoming revenues and upside exploration potential to the mix.

Successfully developing a portfolio of high quality assets requires a skilled management team able to execute acquisitions on commercial terms, and the ability to mobilise funding in order to make this happen.  In due course the revenue generation through Texas should be able to fund a significant proportion, if not all of the Company's operational costs. For now, a recent fundraising of A$10million demonstrates their ability to secure funding from the market when required. 

At 7 cents or 4 pence per share, this fundraising was achieved at a 33% premium to the rights issue completed earlier in the year.  We feel that this demonstrates positive progress.  We also believe that the acquisition of the Trinidad Onshore interest demonstrates Management's ongoing ability to generate value in excess of entry costs.

Whether the current AUD$110 million/£63 million market cap reflects the value within this portfolio is a matter for individual investors to consider.  Our opinion, as we cast a glance over the Oil and Gas sector, is that there are few producers/explorers that can compare with the depth, breadth and diversity of projects held by Range Resources.  Therein, we feel, lies the opportunity.

And it would seem we are not alone in our view.  A recent broker note from Old Park Lane Capital has placed a value for Range Resources as it stands at $276million, or 12.8p per share, fully diluted.  And that doesn’t reflect the potential upside Range Resources has across the portfolio.

Example of Risks (not exclusive):
• Exploration work fails to identify economic resources; 
• Country/Regulatory risk;
• Financial risk (sufficiency and stewardship of working capital and investment capital in particular);
• Commodity price exposure;
• Key person exposure (risk of losing key members of the team). 

Company information:
Range Resources is listed on the Australian Securities Exchange (ASX:RRS) and listed options ASX:RRSOA ASX:RRSO) and the Alternative Investment Market (LON:RRL) and in the USA through ADR facility (Code: RGRLF)

Shares in issue -– 1,072,019,982 Options: 460 million at 5c per share 60 million at 10c, 3 million at 50c, 65 million at A$1 per share and 4 million at 4p.  Market cap (16.07.10) – ASX A$110 million (10.50c) and AIM £63 million (6p).