TomCo: Oil sands within reach
TomCo (TomCo Energy PLC (AIM:TOM)) is an oil & gas exploration and production company that operates in the Uinta Basin in Utah. The region holds some of North America’s largest deposits of oils sands with the potential to yield some 10bn barrels of oil. TomCo is working on two projects to commercialise some of this potential.
First project: Solvent-based separation process
Through its Greenfield venture, TomCo is working on a separation process that will get around some of the problems with conventional oil sands processes. The company has a purchase agreement in place on a site for mining of oil sands and location of the separation plant. The proposed project has the following advantages over conventional processes:
- Limited environmental impact, with a modest water requirement, no “dirty” sand to remediate at the end of the process, and a valuable revenue stream from the high-grade sand that is produced as a by-product
- A scalable modular system with limited capex requirement
The company has completed technical studies for the separation process and is now in discussions with regard to financing the project.
Second project: In-situ separation
In September, TomCo announced that it was in talks with a third party with regard to financing for a drilling project which will use steam injection to separate oil from tar sands in-situ, bringing liquid oil to the surface. This project targets oil sands deposits at greater depths than the surface mining that will be used for the Greenfield project. The in-situ separation project will provide an auxiliary revenue stream for TomCo, and the deal is being structured in such a way as to provide some of the upfront financing for the Greenfield project.
Two projects advancing towards implementation
On November 16 TomCo announced that it had completed the next contractual step in acquiring the site for the two projects.
During Q4 2021 and Q1 2022 we believe the company could be in a position to finalise the financing for both projects, receive permits, and commence site works. We believe that the in-situ project could begin generating revenues in 2022 and the separation plant project in 2023.
In this report, we provide an overview of the technical aspects of both projects, as well as the economics. We estimate that US$120mln of investment would establish a separation plant producing 5,000 bpd of output. This would produce ongoing revenue of over US$150mln per year and EBITDA of over US$60mln per year by our calculation. We present the financial and valuation implications in detail on p8-10.
Next steps and potential upside
TomCo is an Exploration and Production company which operates in the Uinta Basin, Utah, USA. This geological formation is known to hold large deposits of oil sands. TomCo is focused on opportunities in non-conventional oil & gas, and the company is working on innovative extraction technologies to realise this potential.
The Uinta basin is part of the Green River formation, which contains the largest North American oil sands deposits outside of the Athabasca region of Canada. The estimated oil sands in the formation represent over 10bn barrels of oil.
TomCo is working on two projects to unlock the oil sands potential in the Uinta Basin. In this report, we examine the economics of both projects (p5-6 and p6-10). We summarise the two projects as follows:
Investment Summary
In-situ process targets deeper deposits, earlier revenues
In situ separation process
The in-situ process extracts oil from oil sands by the injection of steam and carbon dioxide underground to release the oil from the sands before bringing it to the surface. The process is a variant of a technique called cyclic steam stimulation.
In September the company announced that it was in talks with a third party to fund an in situ oil production programme which would be based at the same location as TomCo's other project, but which would access oil sands deposits located at greater depths.
Above-ground separation plant is the major opportunity for TomCo
Above ground separation plant for oil sands
TomCo is involved in the development of a new system for processing of oil sands, based on a process that has undergone initial development and testing at a site operated by TomCo during H1 2021 through its Greenfield venture. This process could be commercialised on a relatively fast timescale.
Globally, oil sands are already being exploited on a large scale, but the system being examined by TomCo will use a new processing technology that differs from the systems used by the larger-scale operations which are well established in Canada. The new process offers modest initial capex, flexible scalability, and eliminates the expensive disposal of ‘dirty’ sand at the end of the process.
Two projects to run in tandem
Source: Proactive Research
Geology
The Uinta Basin is rich with hydrocarbons in the form of oil shale and oil sands. The oil sands in this area have not been commercialised previously due to the high water requirements of a conventional separation process and the huge scale needed to justify the capex of a conventional separation plant. TomCo's process gets around both of these obstacles.
TomCo’s planned site for mining and processing lies near the Asphalt Ridge area of the Uinta Basin known to have significant oil sands near the surface. The following geological diagram provides an overview:
Uinta Basin geology
Source: Utah Geological Survey 1996
Two separate formations being addressed
There are two separate oil sands deposits that are relevant to TomCo's projects, both of which are found in the shallower hydrocarbon formations close to Asphalt Ridge:
- The Duquesne river formation holds oil sands between surface level and a depth of 100 feet. These are suitable for open cast mining for use in the above-ground separation plant.
- The Rim Rock oil sands formation lies deeper than the Duquesne river formation at depths of around 600 feet. This is suitable for the steam injection in-situ separation process.
Timeline and how the business has developed
Both projects are approaching the point of commencing site works, subject to financing being finalised, and permits being received.
The following timeline shows the development history so far.
Testing complete, commercial preparations progressing
Timeline
Source: Proactive Research
The purchase agreement for TSHII, the production site, was structured via a two-stage purchase option. TomCo acquired an option to purchase a 10% membership interest for US$2mln, which would then trigger an option to acquire the remaining 90% for US$15.25mln on or before December 31, 2021, or for US$16.25mln between January 1, 2022, and December 31, 2022. The first option, for the purchase of a 10% interest, was exercised on November 15.
We believe that both projects are on course to begin physical implementation during Q1 2022. We next consider the details of both projects.
In situ separation process
Cyclic Steam Stimulation is a process that has been used extensively globally for accessing heavy oil deposits, using steam injections to liquefy the oil. TomCo proposes to use a version of this process using steam and carbon dioxide.
The following diagram provides an illustration:
The Cyclic Steam Stimulation process
Source: Oil and Gas News
Revenue sharing deal under negotiation
In September, TomCo announced that it was in talks with a third party to fund an in-situ oil production programme. The plan envisages that the other party will use TomCo's operating base on TSHII as the location for drilling infrastructure to access oil sands that are located adjacent to the TSHII site, and will provide sufficient funding to establish five wells inside TomCo’s property. We believe that a realistic medium-term plan would envisage:
- A total of 15 wells including five within TomCo's property
- 100 bpd of oil per well, amounting to total project revenue of US$120k per day at current prices
- TomCo’s Share of upfront CapEx covered by the partner
- Initial revenues to be used to pay back TomCo's share of upfront investment, with residual revenue sharing still to be determined
We estimate operating costs for the in-situ separation process at around $30 a barrel, meaning that the operation should achieve a strong gross profit margin at the current oil price.
The following diagram illustrates:
OpEx costs for the in-situ process
Source: Proactive Research
Carbon sequestration could be a major advantage of the process
Another important aspect of this process is carbon sequestration:
Carbon-neutral oil
The process will use carbon dioxide from industrial exhaust gases. TomCo is in talks with industrial CO2 emitters in the locality and envisages capturing CO2 which would otherwise have been discharged into the atmosphere. The CO2 that is injected into the well remains below ground after the drilling operation is finished, and as such this can be categorised as a carbon sequestration project. In fact, it is possible that the carbon that will be sequestered in this way will equal or exceed all of the CO2 emissions that will result from the use of the oil end-product. In other words, this oil will be effectively carbon-neutral.
Conclusions on the in-situ separation project:
We believe that this project offers a route for TomCo to access the capital it needs for the TSHII site acquisition, as well as potentially providing auxiliary revenues for the company going forward.
Above-ground separation plant
Currently, oil is separated from oil sands by a number of operators globally, using a process with large gravity separation tanks to produce diluted bitumen, which can then be sent for refining. Issues with this method of separation include: 1) large capex requirement; 2) very large requirement for water; 3) dirty (oiled) sand to be disposed of, and 4) bitumen output that contains high levels of sulphur.
TomCo’s Greenfield subsidiary aims to use an innovative separation technology that gets around some of the problems with the traditional process.
In December 2019 TomCo signed an MoU (memorandum of understanding) with Valkor, a global engineering procurement construction and installation specialist, to work on the development of a new process for oil sands separation. Operating initially as a joint venture between Valkor and TomCo, Greenfield performed oil sands separation at scale at a test facility at Asphalt Ridge, Utah. This produced around 180 bpd of output during June 2021. This compares with 5,000 bpd which is the production target for the initial full-scale plant at TSHII. The test plant successfully demonstrated the technology. TomCo acquired 100% ownership of the Greenfield venture in August 2021.
The process has a number of advantages over conventional oil sands separation techniques:
- A modular, scalable extraction plant
- Lower start-up capex
- Lower water requirement
- By-product of clean sand, available for sale as an additional revenue stream
The following diagram illustrates the process which is being developed:
Oil sands separation system
Source: Proactive Research
The economics of this methodology are attractive, particularly for an operation that will start out at a relatively small scale when compared with some existing oil sands industry projects.
Economics of the new separation system
TomCo received a FEED study and third party validation report in July 2021 outlining cost estimates for a full-scale separation plant, based on the data from the test plant. Furthermore, in September 2021 TomCo announced positive results from testing of the output produced by a third party company called Quadrise, for potential use of TomCo’s output in commercial applications.
Based on the available information, we believe that the likely output from the separation plant will comprise:
- Asphalt
- A smaller quantity of middle distillate oil (MDO) suitable for use directly in power generation and heating applications
- Clean sand suitable for industrial and fracking markets
Sand is a valuable revenue source for the project
The sand is an important potential revenue source. Sand that has been produced from the test plant consists of high purity silicates at uniform grain sizes, and this is expected to be the same at the full-scale plant at TSHII. This type of sand is suited for industrial uses as well as for use in the fracking industry. As such this can be sold for much higher prices than ordinary construction sand.
Based on these outputs, the following graph summarises the revenues and costs for the separation plant, on a per-barrel basis. This excludes capital costs, which we address on p9.
Per barrel production costs for solvent based separation system
Source: Proactive Research
Based on these revenue and cost assumptions, we arrive at the following summary P&L / cashflow forecast for the separation plant. This includes the costs of mining the oil sands.
Our oil price assumptions for this model are as follows:
- We use the WTI crude three-year forward price, currently at US$65/bbl
- MDO assumed to sell at a US$15 premium to crude
- Asphalt assumed to sell at a US$10 discount to the WTI crude price
Attractive 20-year revenue / profit / cashflow profile for the project
P&L and Cashflow summary for a 5,000 bpd plant
Source: Proactive Research
We model the plant on the basis of a 20-year economic lifespan, meaning that we form a discounted cash flow (DCF) calculation by extending our 2026 cash flow assumption out to 2042, with the conservative assumption of zero growth over the period.
Capital cost and financing
We model on the basis of a US$120mln capital cost for constructing the separation plant. There are a number of possible routes for achieving the financing of the plant:
- Debt financing
- Mezzanine financing
- Project-specific equity sharing
Debt financing can potentially be secured against the value of oil sand potential resources, and against the value of the capital equipment itself which is off-the-shelf and resalable.
Given the uncertainty around the mode of financing, we find it instructive to make our DCF on the basis of a range of different assumptions for weighted average cost of capital. The following table shows the DCF output based on a range of different assumptions for WACC and also for the oil price (which feeds through to the prices of Asphalt and of MDO). The output prices represent the net present value of the project, net of the initial US$120mln investment as well as all other cash outlays.
Net present value of US$161.9mln to US$308.9mln at the current forward-curve price for oil
DCF Sensitivity for the project - NPV in US$-mln
Source: Proactive Research
The DCF suggests a value of US$19.4mln to US$260.3mln for the project. Or, with oil price between US$75 and US$85 per barrel (near the current price), a valuation range of US$86.6mln to US$214mln.
Conclusions
It is not possible to precisely quantify the financial upside potential for TomCo at this stage. In particular, the issue of financing the project remains an open question.
We argue that almost any reasonable financing structure would leave significant value for TomCo shareholders relative to the current market cap of the company.
This value proposition is supported by the unique characteristics of the new separation process:
- An output product that requires no further refining
- A modular production system with a low capex requirement
- Modest water requirement, and no “dirty” sand to be remediated at the end of the process
Translating our DCF sensitivity into a GBP pence per share basis, we arrive at the following range of upside to the current share price:
DCF sensitivity for the project - NPV in GBp per share
Source: Proactive Research
Dramatic share price upside under a positive outcome for the oil production projects
These estimates compare to the current TomCo share price of 0.7p per share, implying 6.5x to 30x upside to the share price. We recognise that the market will apply a substantial discount until:
- Permits and financing are finalised, which we expect in the next 3-6 months
- Site work commences
- Revenue commences
We argue that the current TomCo share price leaves dramatic upside potential under a positive outcome for the oil production projects.