Bruce McLeod – Chairman & CEO, Empire Energy Group, Australia
Bruce McLeod describes Empire Energy Group’s large scale petroleum option play in Appalachia, the group’s massive McArthur Basin petroleum assets, and the widespread benefits of shale exploration in the Northern Territory—potentially Australia’s next energy hub.
What have been the core strategies that have guided Empire Energy through its many milestones during your decade-long tenure with the company?
The core strategies have been focused around the production of stable cash flow from oil and gas production as well as specifically targeted, early stage exploration targets with massive upside through Farmout type structures. When the company started its operations in the USA around 2007, the initial focus was on east coast natural gas. The reason for that was very simple: natural gas at that time was at a price level that could generate very favorable returns. Furthermore, compared to Asia or Australia, there was a readily accessible market in the USA — with widespread buyers and sellers of both producing assets and gas produced.
We first centered our efforts on developing assets in the Appalachia region, and although our moniker is conceptualized on the ‘Empire State’, New York, our first purchase was actually in Pennsylvania. Together with a USD 100 million acquisition credit facility issued by Macquarie Bank, we then began gradually adding natural gas assets to grow our portfolio in both states. By the time of the global financial crisis (GFC) in 2008, asset prices had moved to exorbitant levels. Through our growth strategy we did not overextend our balance sheet leading up to the GFC. Our investment metrics were based around the cash flow of the assets that we were acquiring. If we couldn’t get a return or payout on our investment within four to five years, we considered those assets too expensive. Over time however, we have become one of the largest landholders and gas producers in New York State.
In addition, post the GFC, to balance our production profile, the Company was able to acquire oil producing assets in the Mid-Con and around 700Bbl/d net production in Kansas. Further assets have been acquired in Oklahoma, with Empire currently focusing on building its production base in the Mid-Con region.
Unfortunately, due to unsubstantiated ‘scientific research’, New York State Governor Cuomo implemented a fracking ban rendering all 300,000 acres of Empire land valueless in terms of exploiting the significant shale resources. Although the shale fracking moratorium and now ban has been in place for close to eight years, Empire holds most of its acreage by production from existing wells producing from formations other than shale. Our strategy in Appalachia is to continue acquiring producing acreage at very low cost on the belief that at some stage the economic benefits of shale production for some of the economically poorest regions in the USA will be realized, and political honesty will prevail to allow the fracking ban to be lifted and the economic benefits accrue to the people of the State.
The success of the Appalachia acreage option position is contingent on the uncertainty and outcomes of political developments. Isn’t this somewhat risky?
I believe the ban will be lifted because of two fundamental reasons. One is that natural gas is a clean energy provider, and I find it rather hypocritical that New York State, being the fifth largest consumer of natural gas in the USA, is not creating an environment that leads to its own production and energy independence. Further, the USA is the only country in the world that is ahead of its CO2 emissions reduction targets. The main reason for this is the significant move from coal to natural gas for electricity generation, with natural gas as an energy source now accounting for over 50% of all USA electricity generation. On this basis, at some stage, the political scenario will need to change and fracking activities should be allowed in certain defined areas—for example outside of national parks and water-catchment areas. The other reason for the ultimate development of these resources in specific regions in New York State is that shale development acts as a source of economic stimulation. A classic example is Ohio State, which was an economic basket case until around 2011. It has totally reversed its position as a decaying ‘rust belt’ State, to a State now with rapid economic growth, increasing Government income and falling unemployment – all based around Utica and Marcellus shale fracking. In comparison, Central and Western New York are regions suffering from extreme impoverished conditions, decreasing tax bases, increasing unemployment, negative job growth, in fact nothing to keep young people in the region. This is a classic economic death spiral for two thirds of the State by land area. This is an example of the questionable New York State political system that panders to vocal, uninformed minority interest groups. For many up-State New Yorker’s they see what is happening in Pennsylvania, Ohio and West Virginia, where fracking is allowed as the economic gap between up-State New York and the ‘Frack States’ rapidly expands.
Empire’s low key strategy is to continue to accumulate acreage in New York State, at negligible cost, which is possible as no one attributes any value to it, and ensure any acreage acquired is held by existing production in anticipation of greater value once the fracking ban is lifted—in the medium term.
Empire recently established a farm-out agreement with the Australian affiliate of American Energy Partners, LP to develop its Northern Territory oil and gas tenements. What type of favorable indications ultimately led the company to realize the tremendous potential of this acreage position?
As a component of aggregating our Appalachia assets, we also ended up with a 5,500 acre position in Pennsylvania that was in our books for an average of around five dollars per acre. As a result of the shale boom, we were then able to sell our Pennsylvania Marcellus and Utica shale acreage for USD 4,250 per acre. As we negotiated this sale over 2009-10, I could see that companies such as Range Resources, Exco, Cabot, and others were starting to ‘unlock the secret’ of the Marcellus Shale. As such, I felt there could be similar parallels in Australia. In late 2009 I contracted Dr John Warburton, a consulting geologist, with experience in new frontier petroleum exploration to commence a survey of shale basins in Australia—a relatively underexplored segment at the time. After several months of analysis, in early 2010 we determined that the McArthur Basin displayed the most attractive shale characteristics in Australia leading Empire, through its wholly owned subsidiary Imperial Oil & Gas, to claim approximately 75 percent of what is known as the McArthur Basin Central Trough. At that point there was only round ten percent of the Northern Territory covered in petroleum exploration license applications. That coverage sharply increased to close to 100 percent in the following 18 months.
From our perspective, with the exception of several smaller areas we were able to secure most of the region identified. It took us three years before we could secure our first permit in 2013, and one more year for our second permit—now with five permits still pending approval. The process, although straightforward, is very time consuming with the need to negotiate with Traditional Owners of land. We have made significant efforts to ensure that the Traditional Owners fully appreciate the implications of oil and gas exploration activities. We have found this to be a rewarding approach in that the Traditional Owners have been very open minded and pragmatic in that many are seeking new commercial opportunities to provide for economic security through steady royalties, jobs and education for future generations. Our approach to the Traditional Owners has been based on a respect for culture and values and communicating the company’s plans with a sense of integrity and transparency thereby creating fruitful, long-term relationships.
From this point forward, what will the timetable look like for this project?
Currently, the plan is to undertake up to an AUD 35 (USD 25.7) million program including 2D seismic and the drilling of up to 2 wells over 2016.
Although still in its infancy, some headlines have described this region as “Australia’s answer to US Shale”. But given the current oversaturation of supply—especially coming from the USA—do you believe there will be enough market demand to achieve commercial scale and experience a similar shale boom?
I think what’s happening in the USA is irrelevant. The crucial fact in Australia is that the capital ‘heavy’ infrastructure has been built, five LNG plants and what now is likely to happen is that Australia will move into a period of natural gas supply shortage. The LNG plants, two in Darwin and three in Queensland, will require a significant and consistent supply of natural gas in order to deliver necessary stakeholder returns. The CononcoPhillips LNG plant in Darwin appears to be running well short on reserves from the Bayu Undan gas field and so by 2018 onwards it is likely to be seeking additional sources of natural gas. Onshore natural gas would seem the logical approach. Therefore, within several years there could be 4 LNG plants (1 Darwin and 3 East Coast) looking for natural gas supplies, along with the East Coast of Australia commercial and residential supplies becoming restricted, as already evident. Coal seam gas (CSG), with its problems of laying amongst freshwater aquifers as well as producing large quantities of water and associated salts and sulphurs is sparking an influx of controversial debate—especially given CSG’s proximity to populated areas, quality agricultural land and artesian water supplies in places such as Queensland, New South Wales, and Victoria. These CSG shortcomings are giving the shale industry an undeserved reputation when contrasted to the Northern Territory, which is sparsely populated and has potential for widespread abundance of deep, dry shale gas—the ideal scenario to develop a safe, unconventional resource of natural gas.
In addition to feeding domestic consumption, the potential development of gas in NT will certainly help alleviate any supply issues that plants on the East Coast might face in the coming years. The only conceivable challenge might be the lack of pipeline infrastructure in NT—especially considering its remote location. But the North East Gas Interconnector (NEGI) pipeline—connecting NT to Queensland—was recently announced. This has tremendous implications with respect to tackling Australia’s energy crisis and jumpstarting NT’s shale gas development. Normally taking years to settle, this tender was awarded in a matter of months to energy infrastructure company Jemena. The major infrastructure—the LNG plants—have been built; now, they’re just waiting for the natural gas to come.
How do you envision the company and the industry developing in the next three to five years?
Within this time frame, I hope that the McArthur Basin, not just Imperial’s land holdings, will have become a real energy hub for Australia. Despite the fact that Empire will only hold a 20 percent working interest in our tenements, this would be a great result from an Empire Energy shareholder standpoint. As part of the Farmout Agreement we will be funded for the first US$560 million of total project expenditure. From Australia’s perspective, the Northern Territory stakeholders, including the Northern Territory Government, population and Traditional Owners, the development of the McArthur Basin would provide massive benefits in terms of commercial returns, through new projects, job creation, royalty streams and taxes. The expansive downstream implications for the nation’s energy supply and economy will be significant, as is now being experienced in the USA. With appropriate operating guidelines in place, shale fracking in the McArthur Basin has the opportunity of being a game changer to the Northern Territory, not only making it a major player in assisting in the decarbonisation of Asia, through LNG exports replacing coal fueled power generation, but potentially making the Territory an energy power house in the Asian region.
For the industry as a whole, the recent large scale cancellation and deferment of capital expenditure must lead to significant oil and gas shortages in the future. These cycles have been experienced many times before in the industry. With world demand for petroleum products increasing at a steady pace, it is possible by the end of 2016 demand and supply will be back into equilibrium. By 2018 it is likely there will be significant supply shortages leading to strong price escalation from current levels.