Xtract Energy: moving closer to production

If any natural resources company follows the old adage of not putting all the eggs into one basket it is surely London-based AIM-listed Xtract Energy (XTR). In August 2008, as market conditions were worsening, the company announced the extension of its already diversified portfolio of early stage energy sector technologies and businesses: a new exploration and production joint venture with Merty Energy of Turkey had been added.

With cold financial winds blowing hard through the sector, producing assets are valuable commodities – and Xtract and Merty have scored an immediate hit with the first oil well drilled in Turkey under the banner of their joint venture company Extrem Energy. Test production is due to commence in the second half of April and last for about one month, the results being used to determine the number of production wells and the capacity of surface facilities required for field development.

This early progress in Turkey has been a real fillip for Xtract, whose operations and investments did not previously include production or near-production assets. With evidence of green shoots at low-profile unlisted North Sea explorer Elko Energy – in which Xtract has a 35% stake – the coming months offer the prospect of valuable progress on more than one front.

Xtract Energy’s portfolio, which is held through investments in listed and unlisted companies as well as subsidiaries, is broad – despite the market currently assigning it a rather niggardly net worth of around £8 million. The principal assets are outlined below, followed by a little more detail for those that appear to be the most newsworthy in the near-term.

Asset Overview

For a small company, Xtract Energy is probably unique in the geographical spread and varied nature of its operations and interests, which range from conventional on-shore exploration and production through to cutting-edge research and technology.

In outline, Xtract’s current portfolio comprises:

·    a 20% stake in Extrem Energy, a joint venture with Merty Energy, initially focussed on a portfolio of licence interests in Turkey including the high potential prospect at Candarli Bay. Xtract has the option of lifting its shareholding to 34% before 30 June 2009;

·    a 35.4% stake in Elko Energy, which has interests in exploration and production licences in the Danish and Dutch North Sea;

·    a 25% stake in Zhibek Resources, an oil and gas exploration and production company with a 72% interest in the Tash Kumyr and Pishkoran exploration licences in the Kyrgyz Republic;

·    an 11.6% stake in MEO Australia (ASX:MEO), which aims to become an integrated gas-to-liquids company;

·    a 100% stake in Xtract Oil Ltd, a subsidiary focussed on the development of the company’s oil shale resources in Australia and the technology for oil extraction from oil shale;

·    a 70% stake in Xtract Energy (Oil Shale) Morocco SA, a joint venture with Alraed Limited Investment Holding Company WLL which is controlled by His Highness, Prince Bandar Bin Mohd. Bin Abdulrahman Al-Saud of Saudi Arabia, evaluating the potential of an oil shale deposit near Tarfaya in Morocco;

·    a 19.4% stake in Wasabi Energy (ASX:WAS), a diversified investor in traditional and renewable energy technologies, and:

·    a 100% stake in Sermines de Mexico SA, a subsidiary with gold exploration licences in the Sonora belt region of Mexico.

In the Interim Results for the six months ended 31 December 2008, the unaudited Balance Sheet showed net assets of £11.3 million with a cash position of £1.69 million. Xtract’s executive chairman has recently advised the market that action has been taken to reduce cash burn in the current climate of financial turmoil.

Extrem Energy (Xtract Energy ownership 20%)

In August 2008 Xtract Energy announced the completion of a definitive agreement with Merty Energy of Turkey for an investment in a new exploration and production joint venture. The aim is that the new company, Extrem Energy, should become a medium-sized oil and gas E&P focussed initially upon Turkey, where Merty has particular expertise and experience.

The current 20% stake represents an outlay of $5 million by Xtract, and has facilitated the initial work programme; seven licence interests previously held by Merty have been put into the new company, including the high potential prospect at Candarli Bay in south-west Turkey. Xtract has the option to raise its holding to 34% by contributing a further $3.5 million before 30 June 2009.

The first well in the Alesehir/Sarikiz licence area, Sarikiz-2, was successfully completed in December 2008. Extrem Energy holds 80% of the licence, with the balance held by the Turkish company Petrako. Results were markedly better than the pre-drill estimates, and the seismic has recently been re-interpreted to incorporate the well data. The Sarikiz field is now believed by the company to be a fan delta body covering 4 square kilometres, with an average reservoir thickness of some 50 metres; the respective pre-drill estimates were 2 square kilometres and 10 metres. This has led to a substantial uplift to the total oil in place estimate, which the company now considers (P50 basis) to be approximately 158 million barrels.

The reservoir characteristics are also better than expected; around the well, the recovery factor is now put at 35% with the recovery for the rest of the field currently unknown but expected to be in the 20% to 35% range. The total estimated recoverable volume for the field is currently in the range 32 million to 55 million barrels. If this were confirmed with the drill bit, the attributable working interest to Xtract Energy would be some 5.1 million to 8.8 million barrels at a 20% holding in Extrem Energy, or from some 8.7 million to 15 million barrels at the maximum 34% level. These considerations tentatively suggest that Xtract’s interest in Sarikiz might be in the range 5 million to 15 million barrels recoverable. Such volumes, when set against Xtract’s current market capitalisation of some £8 million would clearly be significant.

The company is going to production test 12 levels of sandstone at Sarikiz-2, with a combined thickness of 75 metres; there are also a further 11 levels which contain producible oil. The estimated production rate from the 12 levels is expected to be at least 500 barrels of oil per day, and laboratory reports indicate good quality 33.5 degree API crude oil. With the reservoir less than 2000 metres from surface and with favourable characteristics, an onshore European field of this type represents an attractive development opportunity.

Bolstered by this good result, Extrem Energy is currently acquiring a projected 182 kilometres of 2-D seismic over its 100% interest in the Siraseki licence area in south-eastern Turkey; the company expects further drilling targets to be identified following the interpretation of the data.

Whilst it is undeniably early days for Extrem Energy, it would not be exaggerating to say that this new venture has got off to something of a flying start.


Elko Energy (Xtract Energy ownership 35.4%)

Progress at Elko Energy, an unlisted Canadian registered company with sizeable interests in exploration and production licences in the Dutch and Danish North Sea, was in contrast disappointing taking 2008 as a whole. So much so that Xtract played a major role in the recent restructuring of Elko’s board, with Peter Moir – the former Asset General Manager for the Central North Sea area at British Gas (BG Group plc) – coming in as President and CEO of Elko Energy. Strengthening of internal staff resources at Elko is underway to help accelerate progress in certain areas.

At 31 December 2008, Elko held cash assets of $13.3 million and in February 2009 completed the acquisition of Oyster Energy BV, increasing Elko’s stake in the adjacent Netherlands blocks P1 and P2 to 60%; the remaining 40% is held by its Dutch government partner. This acquisition has cleared the path for Elko and its partner to move forward with the development and marketing of these assets. Seven wells have been drilled by previous operators in Block P1, five of which encountered gas in three separate structures. During 2008 TRACS International independently assessed the Slockteren sandstone as containing more than 250bcf of gas, plus a potential additional 500bcf in further prospects. Assuming that European gas prices remain reasonably firm, such resources would seem to offer valuable appraisal and development possibilities.

Elko Energy also has an 80% interest in 26 offshore blocks in the Danish North Sea, the remaining 20% held by a Danish government entity. This is the largest exploration licence in Denmark, and in May 2008 TRACS International estimated the aggregate unrisked P50 net prospective resource at 1.8 billion barrels of oil or 8.4 trillion cubic feet of gas. The first exploratory well is estimated to cost some $25 million and Elko currently plans to farm-out part of its interest before the commencement of future drilling activity. This acreage represents the ‘blue sky’ element of the Elko portfolio and significant success with such large opportunities would potentially be transformational for the company.

Elko Energy’s board of directors is currently determining the medium term strategy which will then be presented to its shareholders – and thence to Xtract Energy’s shareholders, who will doubtless be eagerly awaiting details during the coming weeks.


Ownership and Outlook

Xtract Energy is 45.3% owned by Cambrian Mining plc, which seeks to divest this investment – but not at ‘fire sale’ prices in the current distressed natural resources environment. The previously planned dividend in specie allocation of part of Cambrian’s shares in Xtract Energy to the Cambrian shareholders, with the balance being taken by strategic investors, has consequently been put on hold by Cambrian. The other significant holdings in Xtract Energy as at 30 June 2008 were 4.45% by RAB Special Situations, and 3.92% by Lehman Brothers International (Europe).

Whilst Xtract’s share price has undeniably slipped over the past year, there is no sign of the heavy institutional forced selling which has plagued many of its peers. The company has not found the past year an easy one by any means, but a good production test result from Sarikiz-2 might well help put a spring in the step of Xtract Energy and its investors.

The author holds shares in Xtract Energy