Mediterranean Oil and Gas: positive cash flow and company making development in the central Mediterranean region

Rome-based AIM-listed Mediterranean Oil and Gas (MOG) has a long history of successful operation in Italy with profitable and expanding gas production as well as substantial Proved and Probable reserves awaiting development. With some very large exploration targets, the company has a balanced portfolio covering all stages of the exploration and development cycle. We review the progress that the company has already made, before looking ahead at its exploration targets.

ITALIAN GAS: PRODUCTION, AND WITH FURTHER UPSIDE

The achievement of profitable production, to cover the running costs of a company, is a key objective for many oil and gas explorers. Mediterranean Oil and Gas has been producing gas in Italy – which has a very well-developed gas infrastructure and strong prices – for some years. And it is in the process of increasing its output.

The company is currently producing over 2 million cubic feet of gas per day in Italy from interests in a variety of small onshore gas concessions. Its active operational programme for the next two years includes both development and exploration drilling on these assets. Whilst individually modest, they gave the company a gross profit of 2.14 million euros for the most recently reported 6-month period (July-December 2008).    

In addition, Mediterranean Oil and Gas also has a 15% interest in four ENI-operated gas discoveries and one mature exploration prospect in the northern Adriatic near Venice, the development of which has been frozen for some years due to environmental restrictions. The four discoveries together offer from 19 Bcf (best case) to 48 Bcf (high case) net to MOG, and the Italian government has recently indicated that it strongly favours moving closer towards their potential development.

MOG also has a 20% interest in the Guendalina gas field which is located in just 20m of water some 25km from shore, which is also operated by ENI. The Italian Environment Ministry has recently approved the Guendalina field development plan, and ENI expects that capital works will commence later this year, with first gas production in late 2010.  The Proved and Probable reserves are currently 4.5 Bcf to MOG.

These gas assets perhaps tend to be somewhat overshadowed by the higher-impact opportunities discussed below. Whilst recognising the uncertainty regarding the commercialisation of the Venetian assets, we note that the company is expecting to treble gas production in 2010 as Guendalina enters production. This would provide a substantial revenue stream for Mediterranean Oil and Gas, strengthening the company’s position as the larger opportunities discussed below are moved forward.
     
OMBRINA MARE: AWAITING PRODUTION

This field, containing both oil and gas, was discovered in 1987 by Elf in just 20 metres of water in the Adriatic, 7km from the east coast of Italy. Successful drilling work by MOG has resulted in Proved and Probable reserves of 20 million barrels of oil and 6.5 Bcf of gas in the main structure, making a total of some 21 million barrels of oil equivalent. There are also Contingent resources estimated at 11 to 18 million barrels of oil and Prospective resources of 10 to 20 million barrels of oil in nearby prospects, together with gas upside of up to some 14 Bcf.

The total potential of this asset and the nearby prospects could therefore be as high as 58 million barrels and 20 Bcf; this represents some 61 million barrels of oil and oil equivalent. With 100% ownership by Mediterranean Oil and Gas, Ombrina Mare is a key part of the company’s current assets. MOG has been guarding Ombrina Mare rather jealously for some time, for example avoiding any dilution via farm-out. The company’s CEO, who was formerly Shell’s head of exploration in Italy, has recently said:

 “Our team continues to achieve major milestones on the path to developing Ombrina Mare and to our goal of becoming a medium sized oil and gas producer” (Sergio Morandi, 25 June 2009)

What does all this mean in terms of operational plans? In outline, MOG is planning:

* a single production platform at the location of the OBM2 suspended producer well

* four further development wells, two of them having double completion for oil and gas output

* a floating production storage and offloading plant, capable of handling up to 10,000 barrels of oil per day and storing 45,000 to 50,000 tonnes of oil

* a 12km submarine gas pipeline to connect to the existing offshore gas production plant at S. Stefano Mare

* based upon the certified reserves in the main Ombrina Mare field, oil production progressively reaching 5000 to 7500 barrels per day, and 3.5 million cubic feet of gas per day.

This is clearly a substantial project and one which would transform the company; the current plan is that production might commence in the second half of 2011. Based upon 2008 peak prices, the capital requirement is 160m euros, but the current recession should allow MOG to achieve some savings on that figure. The key task for the company with Ombrina Mare is to fund the development so that the value of the asset is retained for the shareholders.

We note in this context the recent appointment of Christopher Kelsall, who has spent the past 14 years in investment banking with extensive international capital markets experience, as MOG’s finance director. The company’s chairman has said:

 “In particular, I look forward to his involvement in the financial structuring of the Ombrina Mare development programme.” (Michael Bonte-Friedheim, 30 June 2009)

As well as making good progress with the necessary permitting for the field development, the company has also submitted further applications to appraise and explore contingent and prospective oil and gas resources inside the concession area.

MONTE GROSSO: A RARE OPPORTUNITY

Mediterranean Oil and Gas has 23% of, and operates, the Monte Grosso 2 project. This is a prospect located in the south of the Serra San Bernardo permit, close to the very large Monte Alpi – Cerro Falcone gas and oil field, which is currently producing 100,000 barrels per day. ENI is the operator of that field, with Shell their joint venture partner. The large Tempa Rossa gas and oil field is also nearby; this is currently under development, with Total the operator in a JV with Shell and Exxon.    

MOG’s partners in the Monte Grosso JV are ENI and Total, who are involved in the nearby fields mentioned above. The overall geological chance of success at Monte Grosso is assessed by MOG at 21.4% with a target depth of 6800 metres and an estimated drilling time of 415 days. With such timescales and high drilling costs, why does Monte Grosso create excitement within the company and its heavyweight industry partners? The answer is to be found in its size; the ‘best case’ prospective resources are currently put at 60 million barrels net to MOG, or some 100 million barrels on a ‘high case’ basis. If the drilling were a success - and of course the chances are that it will not be, such is the nature of exploration - it would be a substantial success for ENI and Total...and an even bigger one for Mediterranean Oil and Gas. 

Whilst MOG is operator at Monte Grosso, the drilling – which is planned to commence in 2010 – will be done by ENI via a full service contract and ENI will operate the rig. This will not be the first time that this prospect has been drilled by a major; British Gas drilled it a decade ago, but technical difficulties prevented their well reaching the target and it failed at some 5000 metres. Drilling techniques have improved greatly during recent years, and ENI now has considerable experience with such deep wells, with more than 50 wells drilled successfully to below 5000 metres.  

Various ‘risked’ valuations have been placed upon Monte Grosso by analysts, through multiplying the potential number of barrels by the chance of success. On a single well such as this, such methodology is problematic. Put bluntly, the well will either find a lot of oil – or it will not. Yet with the substantial assets at Ombrina Mare already in the bag, and its significant industry partners, MOG is well-placed to undertake such a challenge.

If Monte Grosso were to be a success, the upside to the company would be very large. With 65.9 million shares on a fully diluted basis, Monte Grosso alone offers a potential BPS values of  0.91 barrels per share on a ‘best case’ basis, and 1.52 barrels per share on a ‘high case’ basis. These are high figures, and the expected hydrocarbon is light oil, which would be particularly valuable on production. In view of the long drilling timescale, it will be quite some time before this prospect yields its secrets.  

OFFSHORE MALTA: SEVERAL HIGH-IMPACT TARGETS

The company holds an exploration licence for Blocks 4, 5, 6 and 7 of Malta Area 4, in water some 200m to 800m deep. This acreage covers in excess of 5700 square kilometres, and is adjacent to the undisputed international boundary with offshore Libya, some 130km south of Malta.

Whilst no wells have yet been drilled in these blocks, area 4 is on the Pelagian shelf and there are proven petroleum systems to the north, south and west. MOG holds 90% of these Blocks, the balance having been farmed out to Leni Gas and Oil, in exchange for payment for seismic work. So far, nine prospects have been identified within these Blocks and their combined potential has been estimated to substantially exceed that of Monte Grosso: the total exploration potential is currently estimated by the company and RPS to be 1.475 billion barrels on a ‘best case’ basis; the range is from 0.334 billion barrels ‘low case’ to a remarkable 4.214 billion barrels ‘high case’ . 

Mediterranean Oil and Gas has a three-year exploration licence which runs until July 2011 which includes the drilling of one well. These offshore waters are relatively hospitable, and in view of the company’s substantial percentage of the Blocks a farm-out arrangement which traded part of the acreage for, say, two exploration wells might leave MOG with a still very substantial position. The Tarxien prospect in Block 7 might be the first prospect to be drilled; this has P50 Prospective Resources estimated by MOG and RPS at 115 million barrels and a chance of success estimated by MOG at 20%.
   
FINANCIALS AND SUMMARY

Discovering oil and gas fields is hard enough; putting them into production can be harder still. MOG’s management make no secret of the fact that the worldwide banking crisis has recently hampered their progress; but this needs to be set against the company’s expanding levels of onshore Italian gas production, and its portfolio assets.

Mediterranean Oil and Gas currently enjoys a relatively good cash position; it has some 5.8 million euros cash (as at 18 June 2009), in addition, it has an unsecured credit facility with Bank of Scotland of 9.4 million euros undrawn. However, this is clearly insufficient to fund the development of Ombrina Mare and investors will be watching eagerly for any news on this field.    

Analysts have often concluded that Mediterranean Oil and Gas is not fully appreciated by the market, and it is hard to argue with that view. The current Proved and Probable reserves are 23 million barrels of oil equivalent, though this would increase by between 3 million and 8 million barrels if the development of the gas fields near Venice were authorised. On a barrels per share basis, fully diluted, this would give a BPS of 0.4 to 0.5 on discovered reserves. The share price at the time of writing is 39p with a market capitalisation of £15.18m. 

If the Contingent resources are included, the BPS rises to some 0.6 on the ‘most likely’ case. The inclusion of the high-impact Monte Grosso and Offshore Malta potential changes the picture dramatically; on a ‘most likely’ basis the unrisked figure rises to remarkable 22 barrels per share and, on a high estimate, to an astonishing 61 barrels per share. These latter figures can potentially be misleading, because they would reduce considerably as a consequence of farm-down of the Offshore Malta acreage. Yet even so, it is hard to disagree with WH Ireland who said when the share price was 158.5p that “any risk-discounted valuation comes up with a “fair” value a country mile in excess of the share price.” (WH Ireland, 16 October 2007).

   
Mediterranean Oil and Gas needs to arrange the right funding arrangement for the development of Ombrina Mare which will unlock the value of that asset. If, beyond that, the company were to have success with Monte Grosso or Offshore Malta, MOG would surely have a grin as wide as that of a Cheshire cat.