Private investors like to hear about, and want to see immediate cash flow but surprisingly this isn’t as much a concern for the industry players in our business. Industry players like ‘proving-up’ & ‘booking reserves of oil & gas’. Since oil prices have consistently gone up during my 30 year history in the business, this means the value of the oil reserves in the ground just keep getting more valuable. We see no reason to believe oil prices will go down, and stay down given the upward trend.
Industry professionals follow a sequential path involving the preliminary evaluation & engineering of an attractive oil prospect, followed by the decision to purchase acreage, and ultimately to drill if tests show it advisable. Companies will make a decision to complete a well, and place it into production if commerical quantities of oil can be predicted with some certainty during the development process.
Providing you with an example of how long it may take to generate a prospect, raise the funds, and drill & complete any well is subject to many factors. The technical difficulty, depth, and cost of the drilling & and the completion efforts certainly take the most time after the decision to drill is made in the first place on acreage selected. I know of some field development planned to start with (4) wells to kick-off on April 15, 2012. A letter is now being sent to industry players which gives them two weeks to elect to participate. Good deals sell quickly when documentation, and proper research to support the proposed oil & gas development is available.
In my example, the Operator/Developer believes the funds will be committed to coincide with the drilling spud date of April 15, 2012. The initial development proposal involves drilling four 3,500′ to 4,000′ wells in succession, and completing all four if determined to be commercial, and immedately after drilling is completed, and electric logs confirm the target pay zones have oil. The Operator is experienced, and the drilling rig is available and will be moved from each drilling location until all four wells are drilled to total depth. In this example, the Operator/Developer believes he can drill & complete the four wells within 3 months, and have them hooked-up & pumping. So, with anticipated oil sales, the cash flow can begin in about six months from now. This Operator has title reports, and divisional order staff at the ready, so distribution delays are not the norm with this particular industry professional.
Buying into any producing field with upside drilling potential may be an option, but only if new technology, and ‘true step-outs’, or ‘infill drilling locations’ still exist in a field. Beware the promoters, especially the boiler rooms, and their so called brokers who stress beyond all else the rapid return of your money, and instantaneous inception of cash flow you can count on from production or drilling deals they know little about. Besides being irresponsible, it isn’t in almost ‘all cases’ and rarely possible, to make this promise to investors. Exceptions include buying royalties, and production where ‘real cash flow’ is available…
Although purchasing royalites & production is an option, the return on investment will be much lower than you’ll find possible when drilling new wells in successful oil & gas fields. Of course, if you buy royalties, or production you don’t enjoy the tax write-offs which are substantial in oil & gas drilling deals. One other big point to make about buying existing production…the ‘early birds’ have already gotten the best worms, or the ‘flush & peak production’ you get from new wells; since it has already been paid to the investors in the drilling programs. This is simply because the steep decline of production has already taken place before you as a production buyer arrive on the scene.
There is another issue when buying production…as it is usually the only place you can expect the returns over time on the inevitable depleting & declining oil assets. If you buy a major oil company’s stock however, you can profit from the company’s upstream, and downstream revenue, gathering systems, and pipelines, and refineries, retail revenue from service stations, and overseas operations which are successful, plus a myriad of other ways the big oil companies make money like selling farm-in’s and farm-out on acreage they control to independents, and selling research such as 3D seismic they have in house.
Bottomline, big oil companies just break-even on their drilling & development operations. They make their profits by owning, and controlling many other profit centers. Drilling & Development operations are very expensive, and return on initial costs are low since the majors spend for the long term, such as when they are buying big blocks of often expensive acreage at $8,000 to $11,000 per acre in the Bakken Fields of North Dakota, and Montana.
P.S. By the way our refineries are operating at capacity and are not designed to refine all types of crude we produce in the US and offshore, so unless we want to build more refineries, we will continue to see major oil companies shipping some grades of our oil abroad, which in fact improves our trade balance deficit. One other point, the oil royalites paid to the state & US federal government total almost a trillion dollars a year, so to say the major oil companies & large independents aren’t paying from development operations in the US is wrong thinking.