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Interview

Matthew Allen – Managing Director & CEO, Otto Energy, Australia

Matthew Allen, Otto Energy

Matthew Allen reveals the ambitious growth strategy of one of 2016’s busiest Australian juniors. Having drilled its first well off Tanzania and recently encountered substantial oil discoveries in Louisiana, Otto Energy is now looking to expand its footprint in the Gulf of Mexico and drill more wells in Alaska.

You were appointed CEO of Otto Energy in February 2014, after being CFO of the company since 2009. What did you establish as your strategic priorities when taking over this position?

Reviewing the history of Otto Energy, we were incorporated initially with assets in Turkey, which were divested in 2011. The core focus of the company for nearly ten years was in the Philippines, where we had a number of pieces of acreage in the region. Otto was notably involved in the Galoc oil field, and, as CFO, I led the US$54m acquisition of Vitol’s equity in this field in 2011.

Over the following two years, we worked at improving the operating performance of the FPSO, taking it from around 80 percent up-time to nearly 100 percent operating performance and up-time, and maintained this performance through to 2015. We also executed a subsea redevelopment project, drilling two new horizontal wells, and tied these wells back into the producing FPSO. This stood as a very successful project, and it was brought on stream in December 2013, increasing the production rate to over 12,000 barrels per day. Galoc has gone on to produce over 15 million barrels of crude oil and stands as one of the largest oil fields in the Philippines.

With the oil price weakness in 2014, and with the knowledge that the Philippine oil fields are geologically very challenging, in 2014 we undertook a transaction to divest our producing interests. This deal closed in February 2015. One of our final initiatives in the Philippines was the drilling of an ultra-deep water exploration well called Hawkeye-1 which we conducted in August of 2015, in an amplitude supported conventional play about 1,800 meters under water. This project actually came in both under-budget and ahead of schedule, providing us with a six million dollar profit! Unfortunately after the gas leg, we were hoping to strike oil, but we ran straight into water. Finishing this well served as one of our final initiatives in the Philippines, and we have been closing down this business over the past several months.

At the beginning of 2015, we stepped back and looked, with a global perspective, at where the industry was going and where Otto could best position itself for future growth. We found that the oil price shift had created a vacuum in the market, and an opportunity for companies that had capital. We had just sold our Galoc asset for USD 108 million, which put us in a very positive position where we boasted a substantial balance sheet while many of our peers were been struggling with debt. Despite the market downturn, we were able to reward our shareholders, providing USD 65 million in a capital return, which is always a great feeling of achievement.

As we were closing down our initiatives in the Philippines, with the exception a few small projects that we had in Tanzania, we realized we had limited drilling opportunities remaining in our portfolio. As the price of oil has decreased in 2014 and 2015, economically-robust projects started to become scarcer. The areas that achieve success under these circumstances demonstrate a few prominent factors, namely: proven petroleum basins and areas that have historical production, available open-access infrastructure, as well as a general underinvestment. These became our key factors in assessing new opportunities.

Speaking of new opportunities for your portfolio, Alaska has become an important region for your company as, in August 2015, Otto acquired the right to earn an 8 to 10.8 percent interest in a substantial acreage position on the Alaskan North Slope held by Great Bear Petroleum. To what extent does Alaska fall within this strategy?

Alaska is a highly productive location for oil, possessing a pipeline with a two million barrel per day capacity right from Prudhoe Bay to the Valdez export terminal in the southern part of Alaska. This pipeline is currently transporting 500,000 barrels of oil per day, meaning that there is a surplus capacity of 1.5 million barrels of oil per day in the pipeline. Alaska was, until recently, the only state in the US allowed to export crude internationally; every other state in the union was required to refine crude oil domestically before they were able to export their product. Furthermore, the State of Alaska also provides a number of fiscal incentives, including rebating exploration expenditures in the region in cash. This is a region that has a proven history of production, with some of the largest oil fields in continental North America, as well as available infrastructure by which to export crude production. With no restriction on doing sales domestically or internationally, it is an extremely advantageous location in which to be.

Additionally, Otto Energy has recently stepped into a joint venture with Byron Energy in Louisiana, USA. Following the drilling of SM-6 #2, Otto exercised its option to participate in the drilling of a well in SMI-70/71. Results from drilling of the SM-71 #1 well were announced on the 20th April 2016, highlighting the intersection of hydrocarbons at three separate sand intervals. What would be the next steps moving forward in the region?

In Louisiana, what we were looking for was a complimentary asset to our broader portfolio, one with a shorter cycle time to production, as well as strong cash flow generation that would allow us to spend organically in assets, such as those in Alaska, in the medium term. We structured a deal with Byron Energy which was a multi-stage farm-in, enabling us to make a decision, drill a well, make further decisions and go forward with our plans. It meant that we did not put all of our capital on the table up front. We drilled our first well, which unfortunately encountered some mechanical issues, and we are reviewing the situation to determine whether we should continue activity or not. In the interim, we were able to commence drilling our second well, SM-71 #1, and three hydrocarbon-bearing sands have indeed been intersected.

The D5 Sand, which was the primary target of this well, exhibits excellent quality, and is within the range of predrill expectations. The J Sand, which was a secondary target, was found within predrill expectations while the I3 Sand, which was not included in the predrill estimates, will enhance the project economics. The preliminary results from these three discrete hydrocarbon intervals are considered of commercial value to warrant the completion and ultimate production of the well.

These assets typically cycle 12 to 15 months from discovery to production. As the well has now been drilled, it is now just a matter of “plug and play.” The Gulf of Mexico is definitely a region with a lot of activity, and there are pipelines all over: it only requires an access agreement with the nearest production facility, hook a well up, and begin flowing. As a result, production is slated to begin in 2017. This is Louisiana light-sweet crude that is being sold, which generally sells at a premium to the West Texas Intermediate benchmark index price. If we are able to find three to five of these type of projects, they will provide us with a material production business in the Gulf area. As these wells produce very rapidly, they produce high cash flows, and the goal is to find wells to maintain production as you move along. If we are able to build a production base of approximately 5,000 barrels a day in the Gulf of Mexico, this will provide us with significant cash flow which would allow for us to fund new ventures.

What type of partners are you looking for expanding your footprint in the Gulf of Mexico?

The Gulf of Mexico is a very interesting place to do business. Nevertheless, a number of Australian companies have tried to do business there and have spectacularly failed. The US is a mature oil industry, and in that market, a land owner has rights to title for their crude. This is a very different business than operating in Australia. In Australia, for instance, we focus on engineering, geoscience and expertise, yet in the US, land men are just as important as the technical skills used to operate a business.

Finding a partner that has a good mix of both technical ability, and the ability to manage and grow a business is very important – and this is not something that can be done from Perth. It is vital to go out and meet partners on the ground, in places in the region, such as Houston, and create a business this way. We have our first discovery in the region under our belt now, and that gives us the ability to grow our business organically, which implies selecting the correct partners.

We have, however, found a very good partner in Byron Energy, and we have maintained a very good working relationship. They are based out of Lafayette, Louisiana, and we are hoping to be able to do more business with this team.

Tanzania is your only footprint outside of North America. What is the company’s strategy regarding its African assets?

We will be drilling our first exploration well onshore in Tanzania in September 2016. In Tanzania, Otto has a 50% share in the Pangani and Kilosa-Kilombero production sharing agreements and the joint venture is preparing to undertake drilling of the Kito-1 exploration well in late Q3 2016. We will be participating in the drilling of this well, and we are looking to farm-down some of our equity, but this is just in regards to managing our financial exposure pre-drilling. It is hoped that we can replicate the successes made in recent years in both Uganda and Kenya.

In regards to expanding to other regions, we certainly keep our eyes open for opportunities, but we are not actively seeking at the moment to expand extensively around Eastern Africa or other regions for the time being.

You have been part of Otto Energy since 2009. What part of the company’s expertise makes you particularly confident in the company’s ability to drive value for its shareholders?

We maintain a very good management team, and also have a very good board, who together are focused on the same objectives. I think the core of what we do well is combine the technical aspects of geosciences along with commercial skills. Doing the right deal with the right assets are the important aspects for success and where there is a lot of potential for added value. With Galoc, for example, we knew what we could about the geology of the asset, and we operated there for nearly eight years, and we were able to deduce that that was the appropriate time for us to exit. As this happened in conjunction with the downturn of the oil price, both commercially and technically it was strategic for us to divest at that point of the cycle. We are hoping to replicate that approach in Louisiana following our first discovery well – once again, a combination of a good commercial deal on good technical assets – will be utilized as a model for the future of how we do business.

What is your vision for Otto Energy in the upcoming years?

We currently receive three to four new business offers a day, proving that it is presently quite an active market. While we are going through an industry cycle where some of our peers may be entering bankruptcy, or having their bank debts reassessed, we are very fortunate that we have several opportunities being presented to us.

We have just drilled our second well offshore Louisiana, and we are prepared to drill two more through our partnership with Byron in the coming year. In addition, we will drill two to four wells in Alaska, and we will shortly be drilling our first well in Tanzania. We are pretty stretched at the moment. We are possibly the busiest junior company presently in the oil and gas space in Perth. We are looking to establish success in Louisiana and follow this up, and we hope to be able to grow out from there. That said, we are keen to focus, for the moment, on just a few specific play types. We do not want to diversify too far away from some of our key areas. Currently the model in Louisiana is working very well for us, and it is hard to foresee us doing any major projects in Asia, or other regions, for the time being. These assets that are currently available in North America would not have been available to a company such as ours even five years ago. This has been part of the fortunate series of events that have led to us having the financial capacity, and the market being receptive to us investing at such a point in the cycle.

We also believe that it is a trap for junior companies to become too attached to their assets, and become weighed down by them. This can blindside a company from other asset opportunities that may be available. Cycling in and out of assets is very important to remain successful as a junior. The theme that we wish to maintain at Otto Energy is a stable cash-flow base that enables us to fund investments in higher impact and higher growth opportunities. We think of this as a very balanced strategy, as we do not see ourselves as purely an explorer or purely a producer, and we wish to have a balance of exposure across the lifecycle of the business and continue to generate our own revenue capabilities.

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