2013 Budget, Stellar Efficiency - One Oil & Gas Pick to Watch Closely

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Kodiak Oil & Gas (NYSE: KOG) announced a $775 million 2013 capital expenditure budget allocated to the Williston Basin oil and gas properties.

Budget Breakdown

The 2013 budget compares to Kodiak's final 2012 budget of $750 million. $600 million of the budget has been allocated to the drilling and completion of 75 gross (61 net) operated wells, $140 million to non-operated drilling and completion activities for 14 net wells, and $35 million for other items. Kodiak expects to fund the budget from existing working capital, operating cash flow and the borrowing base and total commitment for its revolving credit facility of $450 million.

Expected Results

Kodiak projects sales for 2013 to average 29,000 to 31,000 BOE/d in sales volume, which would represent growth in excess of 80% year-over-year. The projected exit rate for 2013 sales volumes is expected to range from 38,000 to 40,000 BOE/d. The budget reflects its continued confidence in the development of the Williston Basin leasehold.

Kodiak has seen a significant reduction in its well costs over the past year. While the budget is based on around $10 million per-well for drilling and completions costs, lower well costs are expected to be achieved throughout 2013. The results seen in the second half of 2012 are evidence of a lower-cost trend for 2013. The majority of acreage is held by production, allowing the company to focus on efficient and less costly multi-well pad development drilling. Of additional benefit is the fact that much of the infrastructure is already in place. 

Kodiak's Success

2012 has been outstanding for Kodiak in terms of production and revenue growth. Average third-quarter sales volumes stood at 16,000 barrels of oil equivalent (BOE) per day, representing a 26% increase from the second quarter, and a remarkable 51% increase from the first quarter of 2012.

Average sales volumes in the last few of weeks of November stood at an impressive 22,000 BOE per day. The principal reason for this growth is due to the company's outstanding operational efficiency. Average drilling days per well has come down to between 20 and 25 days and some rigs were even released in less than 20 days.

Compared to 2012, this means achieving 30% to 40% less drilling time per well.  This means that Kodiak is catching up with the larger players in the Williston basin. In the fourth quarter, Kodiak aims to drill 26 wells with the help of seven rigs, which means 1.24 wells per rig per month. Because of these improved drilling efficiencies, completed well costs currently stand at $10.5 million, compared to $12 million one year ago. Additionally, contracts have been renegotiated, and management is aiming to drive down these costs to less than $10 million per well in 2013.

Kodiak's assets are almost exclusively located in the Bakken Shale, a highly prolific oil and gas play that covers parts of North Dakota and Montana, as well as Canada. As a small-cap producer, Kodiak faces a number of its own challenges. As the company itself admits, it's highly leveraged to the Williston basin, which encompasses the famous Bakken formation. The company has been increasing its acreage in the Williston gradually over time. It has nearly tripled its acreage; in August 2010, Kodiak held around 55,000 acres, compared to 155,000 acres currently. Kodiak's production mix remains heavily weighted toward oil, with 86% of its reserves consisting of crude oil.

Benefits and Risks of Concentrating on the Bakken

The Bakken Shale formation is arguably the hottest oil play in all of North America. Since the play's potential was discovered through advances in drilling technologies, output has skyrocketed and continues to rise. According to a 2008 study by the U.S. Geological Survey, the Bakken may contain reserves totaling 3.6 billion barrels of recoverable oil. While that's a huge number, other estimates are between 10 billion and 14 billion barrels of oil. The Bakken has one of the most favorable gas/oil ratios of any North American play, routinely yielding more than 90% oil.

However, the play comes with extremely high operating costs. Well completion and drilling costs routinely average more than $10 million, as compared to $5 million in conventional plays like the Mississippian.

How Kodiak's Peers Are Performing

Other energy players in the Bakken include Phillips 66 (NYSE: PSX) and EOG Resources (NYSE: EOG).

Phillips 66 recently entered a five-year commitment to ship North Dakotan crude oil by rail to its New Jersey refinery, making an estimated $1 billion bet that North American crude will remain cheap. EOG averaged 13 days per well in the third quarter of 2012. EOG holds diverse acreage, and the Bakken Shale play forms only one part of it.

These companies are constantly experimenting with ways to cut their costs and some commonly use methods include switching between long and short laterals, varying the number of fracturing stages, using a technique called "down-spacing," which reduces the spacing between wells among others. Continental Resources is already averaging $9.2 million per well, while QEP Resources is struggling to contain costs at $11 million per well.

Conclusion

Kodiak is among the smaller players in the business, but it is an interesting investment prospect if it achieves its projected growth and sales figures for 2013. With current oil prices hovering around $90 a barrel, its Williston basin acreage is profitable, and there is no reason to suspect that these prices will not be sustained through 2013. Kodiak has no natural gas exposure and is completely focused on producing more lucrative oil. I believe that Kodiak's profits and revenues will continue to increase due to the company's stellar operational efficiency. Investors should do futher research to see if Kodiak fits in their portfolio.


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