INVESTMENT EXTRA: Xcite has strength to make oil field a success
By IAN LYALL
Last updated at 7:58 PM on 02nd April 2010
The exponential rise in the share price of Xcite Energy in the past year would, at first inspection, suggest a stock that is well and truly up with events.
But nothing could be further from the truth. In fact, there is still a huge disconnect between the perception and reality so far as it relates to this North Sea driller.
But before I get to this, it is perhaps worth understanding what the company does, how it differs from the other speculative oil plays and just what it owns.
Not what it seems: There is a huge disconnect between the perception and the reality when it comes to Xcite
That last part is quite easy. Back in 2003 Xcite acquired full ownership of the Bentley oil field, a prospect approximately 100 miles to the east of Shetland.
What lies beneath the seabed is a little more complicated. Currently the experts think there is as much as 200million barrels of crude that may be commercially extractable.
But there's a wrinkle with the prospective reserves - specifically their viscosity. For the oil in Bentley is a lot thicker, or should I say heavier, than the stuff that normally comes out of the ground in the North Sea.
Heavy oil of this kind used to be incredibly tricky to pump, which might explain why a field that was first discovered in 1977 hasn't yet made it into commercial production.
But in the past three decades the technology has moved on apace. Chief executive Richard Smith says: 'Historically people had mixed results flowing (heavy) oil to the surface when they were being tested.
'Heavy oils like this have been produced in countries like Venezuela. And companies such as Conoco are currently developing wells in China with very, very similar oil and reservoir properties as ours. So its not something that hasn't been done.'
As well as being a little trickier to get out of the ground, the oil, because of its thickness, will also sell at a discount to the prevailing price for North Sea crude.
Analysts suggest this discount ought to be around 8-12 per cent, but Xcite management has conservatively accounted for a shortfall of around 15 per cent.
That gap could and should narrow considerably thanks to an off-take agreement Xcite signed with BP, which should make the product far more marketable.
The BP deal also illustrates Xcite's ability to put together a top notch team to commercialise the venture.
Also recruited into the 'Bentley alliance' are Amec, which will be the engineering and facilities partner, Transocean/ADTI, which is carrying out the drilling (more of this later), Challenger Minerals (farm-in partner) and Fugro, which will deal with the geotechnical data. We hear Xcite is down to a short list of Schlumberger and Senergy for the last remaining role, that of well test engineer.
As it stands, there is a greater than 70 per cent chance that Bentley will be a commercial success based on an independent audit called a 'competent persons' report and field data. The time line for development is fluid, but the aim is to be
pumping oil from the field by the middle of next year.
The plan is to be extracting 15-20,000 barrels a day using a floating jack-up rig through to 2014, when it is hoped Xcite's commercial partners will have a more permanent solution ready to take over. Plateau production is expected to hit 60-80,000 barrels a day.
So there's a rough timeline for activity, but just what is beneath the surface?
Well initially, the recovery estimates were for a base case of 37million barrels of crude. Today, and several appraisals later, it is predicted that Bentley will yield between 109million and 220million barrels in total, giving a most likely scenario of around 160million barrels of crude.
Based on the current share price, the reserves are being valued at just 65c a barrel, which is shocking really given the chances of failure receding by the day. This is the sort of valuation you would give a very speculative exploration programme.
Bentley, however, is a predevelopment opportunity which is ready to go into production therefore far less risky.
The company has run through a number of scenarios. One takes 122.5million barrels as the best case and uses what analysts call an NPV 10 calculation based around a prevailing price of $80 a barrel to work out the value of the shares.
On that basis they are worth 390p each. At the 160million barrels - the median estimate based on the latest drill and 3D survey - the value of the company comes out at £866million, or 653p a share.
Of course these are not independent valuations and so really the projections should be seen as a series of 'what ifs'.
Xcite's own broker, Arbuthnot, is far more cautious. But its 133p a share price target gives plenty of upside from current levels.
OUR VERDICT: While the company is confident it can pump commercial quantities of heavy oil out of the Bentley field there is no guarantee that it will flow at the rate and in the quantities predicted.
Even so, the current share price suggests Bentley currently factors in risks that don't exist. A speculative buy; set a stop loss of 40p.