Tag Oil Cracks the Code

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Disclosure: The following represents my opinions only. I am long TAO.V (Image credit to Daniela Turcanu on Unsplash)

Tag Oil (TAO.V, last at $0.68) gave an update on operations at its vertical BED 1-7 well in the Badr oilfield this morning and, while it’s still early days, there was nothing not to like. The company reported that 500 barrels of 23-degree API oil and 1600 barrels of frack fluid (40% of the 4000 that was injected) was recovered in the initial clean up phase, which was likely over just a one or two-day period. That means the well was flowing at a total fluid rate of something like 1000-2000 barrels per day. Notably, the well flowed that volume of oil and frack fluid to surface without the assistance of a pump, and the oil appears to have shown up pretty early in the initial flowback. When the well is brought on production and the rest of the frack fluid is recovered from the well (you only usually get around 75% of it back), the well would be expected to be flowing clean oil as the water saturation in the ARF horizon is negligible. But remember that this is not about flashy flow rates — the vertical test was/is designed to prove that fracture stimulation of the ARF could be carried out successfully using modern fracture stimulation techniques, and that the resulting increase in connected reservoir volume would increase well productivity and recoverable oil. So far, so good… show me ~200 bopd as an IP30 on the vertical test and I’ll be quite content in my views below in terms of where I think TAO could be heading value-wise.

Recall that this is a single-stage fracture stimulation of the Abu Roash F (ARF) horizon, an oil source rock that has generated some 80% of the oil in this particular basin in Egypt. There is no doubt that the oil is there, it’s just about “fracking and extracting”. After installing an electric submersible pump (ESP) in the well, the company plans to flow the well at a stablized rate that will maximize recovery (the operator can choose what rate the ESP pumps at, within a range defined by the pump capacity), so as to capture data representative of how the upcoming horizontal would actually be produced. After the well is on production in a few days, TAO should be in a position to report an average 30-day rate around the middle of June. That will define something called “productivity per frack”, which will be useful for extrapolating to the 15-20 stage horizontal (that’s me guessing re: # of stages) which is expected to start drilling in June/July.

It’s been a while since I set the stage on why anyone should care about TAO, so now is as good a time as any for a recap. TAO’s target is the Abu Roash F (ARF) within the Badr oil field in Egypt’s Western Desert. RPS has estimated that there are 531.5 million barrels of original oil in place within the ARF horizon on TAO’s acreage. The ARF is a carbonate-dominated source rock that is most comparable to the prolific Eagle Ford shale in Texas in terms of its organic content, depositional environment (marine, anoxic) and physical rock properties (note that Eagle Ford “shale” is really a carbonate). This paper (linked here) is a great primer on the Abu Roash F in the basin where TAO is operating for those who like to get into more technical detail. Distilled to a sentence, TAO’s goal at Badr is to commercially develop the ARF horizon using the same modern horizontal multi-stage fracture stimulation techniques which are employed on similar unconventional reservoirs here in North America. I’ve included TAO’s ARF-Eagle Ford rock-property-comparison below, which can also be found on the company’s website:

In any new unconventional development play, the first step usually involves the fracture stimulation of a a vertical well in order to get an idea of how/if the rock fracks well, and how it produces afterwards (i.e., ’productivity per frack’). With that data in hand, the company designs a multi-stage horizontal well which is completed with perhaps one-or-two-dozen frack stages, as opposed to the single stage in the vertical test. The resulting increase in flow rate (usually something like 4-8x, sometimes higher) and recoverable reserves per well is what gave birth to the “Shale Revolution” that was responsible for the transformation of the North American energy industry over the last 20 years. TAO’s Badr oil project is just an extension of this upstream technology trend… employing the same proven North American drilling and completion techniques to develop the Abu Roash F.

At Badr, TAO is operating in an existing oil field that was developed some 40 years ago by Shell. The field was developed using vertical wells targeting conventional reservoirs, before unconventional resource development was even on the scene (think of how many western Canadian unconventional plays were drilled through for decades before their commercial potential was realized). Enter Chairman Abby Badwi. When it comes to oil, Abby has very a good memory, and I’d bet that he’s been thinking about the unconventional potential of the ARF horizon for quite some time. The nice thing about Badr is that it came with a lot of good well data (from old wells that drilled through the ARF for deeper conventional targets), including some historic tests and short-term production proving the presence of producible oil in the zone. TAO pegs the oil saturation in the ARF at around 95% — that is, there is virtually no free water in this horizon (~5%). So, as I said above, there’s no chance that oil isn’t there, it’s just about whether or not fracture stimulation can unlock the oil still trapped within it.

In addition to knowing that the ARF is full of oil, operating within an existing oil field comes with all kinds of advantages — there are staff there to handle day-to-day operations, new wells only need short infield tie-ins in order to connect to pre-existing gathering lines and facilities, and those facilities are ultimately connected via pipeline to the coast for marketing the oil. It’s an ideal place to start out if you’re trying to unlock a new play for the first time, because all of that pre-existing infrastructure means that the path to cash flow is short and the cost is low. Think about it — TAO will already be selling the oil that they are producing during testing… that’s very unusual in an international exploration story.

The green outline denotes the area covered by the RPS economic analysis. Modelled future horizontal wells are shown as short, black lines. Historic Abu Roash F penetrations are shown as red dots. The West, Central, and East areas have not been evaluated by RPS, but are also considered to be prospective for ARF.

When RPS Energy prepared its resource assessment of the ARF in the Badr concession, the firm carried out an economic analysis of the proposed development of the central third of TAO’s acreage, covering 178.3 million barrels of the oil in place (about 1/3 of the total on the acreage… see above). To realize an unrisked after-tax net present value (NPV10AT) of US$423 million, RPS’ development plan contemplates total capex of US$104 million. Right away, that 4:1 NPV-to-capex ratio suggests that the economics could be remarkable. Looking a little further confirms this… in the unrisked mid-case, RPS estimates that TAO would recover 20.5 million barrels net to its account from that US$104 million in capex, implying finding and development costs of about US$5/barrel. Total opex in the modelled RPS development scenario is US$160 million, implying average operating costs of about US$5-6/barrel. If that’s not already catching your eye, there’s one more metric I can throw at you. Netbacks (how much you make per barrel after operating costs, royalties and taxes) at current oil prices are estimated to be in the range of US$30-35/barrel, which implies a recycle ratio of around 6-7x — the recycle ratio is your netback divided by your F&D cost (how much it costs you to develop that barrel of oil) — anything over 3x is very good, while anything over 5x is highly profitable. Time will tell as the project progresses, but with economics anywhere close to that, the project would quickly become self-funding, which should keep share dilution to a minimum going forward. As of December 31st, TAO had over $24 million in working capital and no debt, which is enough to do the vertical and two horizontals, so the company can be picky about when/if it decides to take in additional capital.

If I want to dream a little, remember that the RPS economics only cover the central third of the Badr acreage, where the most well data is. Should the other two-thirds of the license be even half as prospective as the central third, the unrisked NPV will be pushing something close to C$1 billion (call it 40 million barrels, give or take). Time to take a breath and remember that it’s still early days and there’s much work to do between here and there, but that’s the prize that I see here; on paper at least. The first horizontal well should spud in June (as in, next month), and its planned multi-stage completion will be the biggest-ever frack on the continent of Africa. While TAO is hardly on the radar of most investors right now, I think that (assuming success) the testing of the first horizontal will represent the next inflection point for the story. Because of the widget-like nature of unconventional resource development, once one horizontal has been drilled and tested, the market will be free to extrapolate that across all of TAO’s acreage — and as that re-rate progresses, I think that the unrisked NPV is going to gravitate towards my C$1 billion dream prize. If you asked me what horizontals might be able to produce, I’d guess that IP30’s of “low thousands” of barrels per day would be possible if the IP30 is anywhere in the 200 bopd range; so stay tuned for mid-June.

Assuming things go according to plan, my bet is that by Q3/Q4 of 2024, TAO could be looking at a $500 million market cap based on the Badr asset alone (assuming it trades at half of its foreseeable NPV). Should TAO add another project or two to its portfolio, things can grow beyond that, but I’ve done more than enough dreaming for now. Going forward, as long as I see TAO passing the right signposts along the way, I think I have a good idea of where it’s headed — and that’s all I need to know at this stage. Remember, TAO pumped over 110 tons of sand into the well during the completion. That sand went somewhere. It is wedged into, and holding open, the new fractures created during the fracture stimulation… which should bode well for both productivity and oil recovery. This first successful frack is like punching out the first widget on an assembly line. If you can frack the ARF once in the BED 1-7 well, you can frack it a thousand times… and certainly along every horizontal well that you drill in the future. The path ahead at Badr doesn’t require a lot of imagination for me at this point. I think I know where this is headed, I just have to give it time to play/prove out.

If you think I’m smoking something, here’s an interesting tidbit. When the prospective resource report was released, RPS Energy estimated an 80% chance of commercial development for the ARF. Ten percent of the risk factor was associated with the fact that, at the time, TAO hadn’t finalized the concession agreement yet. That finalization has since occurred, which means that if you ask RPS what the chance of commercial development of the ARF is today, they will tell you it is 90%. A ninety percent chance of commercial development. That’s why I’m willing to take the time to dream as far into the future as I did above when I think about my time horizon here. In my world, if RPS thinks there’s a 90% chance of this working, and the early data suggests that the frack worked as expected, then the market has some catching up to do, right? That process takes a little bit of time, but the odds of being “discovered” by the broader market (or a keen/attentive larger industry player) would seem to be getting better for little TAO.

To be clear, this is all ‘early days’ and it will be important to keep an eye on well performance over the coming 30-60-90-day periods, but today TAO passed a very key signpost. The ARF responds well to fracture stimulation and, as a result, TAO is one big step closer to unlocking what might eventually be known as “the Eagle Ford of Egypt”.

Stay tuned.