A lot of interesting comments surfaced following the last post about spyglass resources, in particular by fellow investor hivoltage who cast a shadow of doubt on meeting production guidance for 2013. His questions are valid and his point of view made sense so I decided to take a deeper look at the 2013 production guidance.
I initially wrote about spyglass resources when Pace, Avenex and Charger merged into one company. The post focused on the dividend sustainability following this merger based on company guidance. For this post, I went back to the company to get my info; after all they should know their production plans better than any of my guesses/estimates.
The reader’s theory was simple; the 20% decline rate implies replacing 3,500 boed based on the Q1 exit production of 17,500 boed. How can the company replace 3,500 boed by drilling some 20 net wells? This assumes an average annual production of 175 boed per well, highly unlikely given a good chunk of the wells will be in the Viking formation.
The other issue that’s also at stake is the exit guidance of 18,000 boed, that’s another 500 boed to add assuming the 3,500 were replaced!
Let’s start with the decline rate, 20% is the annual figure and it would not be fair to apply it on 3 quarters. In this case we will use 15% since the exit rate at Q1 was ~17,500 boed. At 15%, the number of boes to replace would be ~2,600 boed rather than 3,500 boed. According to the company, their Dixonville property with 4,100 bopd production is modeled to decline at 11% per year but has not declined since the beginning of the year. The last phase of waterflood was implemented in Q4/12 and SGL has been reaping the rewards since then. That’s 300 boes less to worry about bringing our total to 2,300 boes to replace.
The company’s Q1 report states the following:
Approximately 67% of the remaining $60 million capital budget will be allocated to development drilling, including approximately 18 to 20 net wells focused primarily on Southern Alberta (Glauconite, Mannville, Pekisko) and the Viking light oil play at Halkirk-Provost.
Of the $60 million, you have some 23% earmarked for work-overs and optimization. SGL estimates these will replace some 500-800 boes. Using a mid-range figure of 600 boes leaves 1,700 boes to replace. Dividing 1,700 boes/20 net wells gives us 85 boepd per well, the figure looks more reasonable given 2 things:
- The drilling program is weighted to the 2nd half of the year (flush production will help)
- The well at Noel is expected to IP at 800 to 1,000 boepd.
Flush production will be the key to hitting the 18,000 boe exit figure (the Noel well would be tied in December if drilled). I do not believe the annual average production guidance of 16,000 boe is at risk. But I do think the 18,000 exit figure won’t be met if the price of natural gas is not above $3.50 soon. The company will skip this well if NG prices remain under $3.
Let’s revisit the dividend sustainability for 2013 where the company will be paying $0.203 per share with the following scenario.
- Average annual production of 16,000 boed (51% oil)
- Edmonton light at $90 = realized price of $78
- Natural Gas at $3.30/mcf AECO
- 2013 capex of $72 million
For operating costs, we’ll go with $17.50 per boe as the mid-range from their $17-$18.50 guidance. G&A is estimated at $3.50 for the year and $3 for next year. I used $2.25 per boe for interest expense. Both the $3.50 & $2.25 figures are provided by the company as well.
What do we get? An all in payout ratio of 103% (versus company guidance of 90-100%).
Obviously, there are a lot of moving parts in these estimates. The 2 biggest ones are the price of oil and natural gas. The price of natural gas used here is reasonable, the average YTD is $3.34/mcf and Edmonton Par averaged ~$92/barrel YTD according to Sproule.
Well the dividend seems safe this year, in theory of course. They still need to execute their program and deliver the results. I suspect the stock will trade higher by the end of the year on flawless execution especially if they also succeed in reducing debt through non-core dispositions. A lot of the data used comes from the company, if you do not trust this management team the numbers you see above are meaningless.
What do you think of the scenario above?