with Russell Langusch, Orion Petroleum Limited
Orion Petroleum went public as a listed company in December 2007 in on over-subscribed initial public offering (IPO). What made this such a highly valued investment in the market?
Without downplaying the quality of our assets I think it was more a matter of market timing that contributed to the IPO’s success. Eastern Star Gas had a portfolio of assets all in New South Wales (NSW) which started life as conventional oil and gas assets including a modest gas field feeding into a small power station. At that stage – the early 2000s – coal seam gas (CSG) had not fully come into its own. Knowing that they had coal in their permits, they gradually shifted their focus to become a CSG company and the conventional assets that sat in Eastern Star were not being advanced. So they decided to spin them out into an IPO.
The reason why the IPO was oversubscribed was because they got their timing just right. The market was choppy at the end of 2007 but there was money available. Historically, there has always been money available for small explorers in Australia. Australian investors are “punters” – they like betting on small stocks in mining, oil, and gas – and have been so for the past 40 to 50 years. They invest in a company like Orion not to get dividends or particularly to see earnings. Rather, they invest in us to see a little bit of luck in exploration success, watch our share price go up five or tenfold, and make money seeing us being taken over or through successful established production.
Our investors are not really here for the long haul. They may give us anywhere from a couple of days to a couple of years. But generally, they invest in a small company to see it become the next Woodside. That could be a long way down the track but Woodside began in the 1960s and it was a long time before any of those investors saw dividends or decent growth. We will not be a core holding in anyone’s portfolio but we are tapping into those investors who will have a small allocation to stocks like ours. Their strategy is to invest in enough of the small players, and cash in on say two out of 10 successful ventures making it okay for the other eight to fail. That is the name of the game.
Orion’s brief history as a public company has paralleled the timing of the financial crisis. How has Orion been able to weather the storm and prove to be a resilient equity investment?
Mainly because management raised enough money from the start and spent it cautiously. They raised A$23 million and drilled two wells, one of which was an oil discovery that we are following up now. The previous management sat on their money and did not really do anything more after that. Part of the reason why I am here is to reinvigorate activity in the company. Investors don’t like us to just sit on our hands. If they did want to put their money in the bank and collect interest on it, that is fine. But they did not invest in us for those same returns. They wanted some action so we had a bit of a boardroom “coup d’etat” about six months ago which brought me in to stimulate action. We have been able to maintain and keep most of our money. We have about A$11 million left of the original A$23 million to utilize on the exploration front.
Having come in to stir up action, how are you putting that money and investor confidence to work?
Our asset portfolio is purely exploration in NSW. We would like to try to diversify that and are attempting to. We had an aborted merger attempt with a company called Gas2Grid which we may revisit at some stage in the future. That merger fell through for technical reasons, not because we did not like the assets in their portfolio. It would have given us some nice exposure in the Philippines and in southern France which we believe is nice diversification because NSW, where all of our assets are, is not a big conventional oil and gas province. There are only one or two small natural gas producing assets in this state. We are here for historical reasons but would like to diversify somewhere else.
Being a small company it is fairly hard because we do not want to particularly play offshore. We see offshore as being for the more for the big guys who are better capitalized for that type of game which involves drilling $50-$100 million wells. If we could participate it would be a very minor role. We deliberately stay away from offshore and veer more towards on-shore where it is relatively cheaper.
We are drilling a well at the moment in northern NSW which will cost us A$2.5-$3 million for 100% interest. That is the level in which we would play. If something goes wrong, the costs can become enormous particularly offshore. The industry is littered with little companies who got over-exposed in an offshore situation or little companies who borrowed too much money. We cannot borrow at the moment because we do not have anything to borrow against. We need reserves to borrow against and we would furthermore be very cautious borrowing against whatever reserves we come to own.
What does that imply about the strategy, risk profile, or competitive edge of Orion operating in NSW which is not the conventional hydrocarbon producing region?
We consider ourselves as having a technological advantage when looking at assets in NSW and elsewhere. It is probably fair to say that smaller companies like us are generally looking at assets that are impaired in some way. We are not going to get the top assets; those will be bought by the bigger companies who will be able to afford more than we can.
Our Chairman Dennis Morton and I both have more than 35 years in the oil and gas industry. We have been around a long time. We think we have a reasonable amount of ability that allows us to recognize assets that are slightly impaired that we can do something with. The assets we were looking at in the Philippines is a classic example. It is a discovered oil field which cannot produce oil and gas so the problem is engineering rather than geological. We would look for assets that companies have walked away from that have been too technically hard to commercialize. We believe that with a bit of smart thinking some of these things can be brought into production. That is the edge we think we can bring – the technical ability to rescue assets that have been suspended or are going nowhere rather than a prime A-grade asset. We can’t afford to pay $1.10 for $1 worth of value. We will pay 90 cents or 80 cents for something that is worth $1 and hopefully make that extra 20 cents as a return.
What are currently the highest priority farm-out opportunities that Orion is engaged in?
We look to take acreage in frontier basins. One of our basins is the Darling Basin which is relatively frontier. The Darling Basin assets are attractive for an LNG player because they are high risk, minimally explored, but with high potential for large gas fields. So we see the advantages of going in, taking a big position and try to attract a farminee to carry us through some of the cost exposure.
Our model is essentially Orion providing the human capital and a bigger player providing the financial capital. We keep ourselves going with equity and there is sufficient market interest in companies like ourselves that if we find the right project, we spend our A$11 million and haven’t got anything left, we then find another project. If it is exciting enough we should be able to raise more equity in this market to keep ourselves going. But we can’t afford to participate at a full interest. That model is not unique, but we are hoping our human capital input is smarter than our peers.
In my previous job I was managing director of an offshore exploration company called Elixir. We used the same model there in an off-shore environment in the North Sea to attract larger companies. The problem was we rode the price rise. When oil surged over $140 per barrel the cost of services surged as well. People think that all the oil companies were making all the money. They were, but all the costs went up for service providers too and we found it very hard to compete in that sort of market.
What is the foreseeable future for Orion’s farm-in model? How long will it be before Orion becomes a big enough player to operate and extract on its own?
We would like to be at that stage in two to three years, recognizing that it would require a fair amount of luck. We can be as smart and strategic as possible, but all exploration companies require a certain degree of luck that gets us to a certain stage where we are in the driver’s seat. We are not going to bet the farm on any one project but we have to make our dollars go as far as they can. We are very aware that we do not own our company. There are a whole lot of people who have put money in and want to see some action, some drilling activity, and some excitement, accepting that sometime we fail.
The farm-in model will continue to exist because not all the big companies – the Shells and the BPs of the world – can have a team looking at these types of assets. The smaller companies can come across assets that are of interest to the bigger players. We are almost like a scouting service for the bigger players since it may not be on their radar to look in the areas that we come across. We have to be smart and be in early. Once again, it is a matter of timing getting into the market and acting as the scout.
What reputation would you like to build as you invite companies to partner with Orion?
We want to show our technical skills that affirm our strength and competency as partners. We know where we are going and rely on our extensive experience and track record. One of our other directors has been in a company that has grown and been very successful. Our past record and technical skill we believe could make us a partner of choice.
There have been new changes in the company that work to our advantage. Following the boardroom reshuffle we went back to a small board. We have been looking for an experienced director to bring in. Our new chairman, Bob Wilcocks, is a very well credentialed lawyer who has a vast amount of experience in smaller companies. Running a smaller company requires particular skills. We think a valuable skill is someone who understands and appreciates how a small company works. We need to be agile, flexible about things, and fairly nimble. In our model we are trying to get in before the big guys and are privileged to have Bob Wilcocks and believe he will prove to be a very good director.
In addition to a positive reputation, what are the benefits of the regulatory framework in the states where Orion operates that would entice partnerships?
Operating onshore is a lower cost environment. Some of the targets we are looking at are fairly small, but that does not mean they are not commercial. The tax system in Australia is quite attractive, not withstanding current developments. That taxation system here is a royalty scheme at the moment that is being gradually changed to a profits tax. We think it is far preferable to some of the production sharing schemes that exist. It is a fact of life in the worldwide oil and gas industry that taxes can be incredibly high, or there is no access at all, where the oil is. Take the Middle East for example, most of our companies cannot get into the Middle East or you go there on a service contract into Iran and get paid $1.30 for every barrel of oil you produce. We will probably steer clear of places like Indonesia. They have a production sharing scheme in which, yes you can produce oil at low cost, but the higher oil prices reach the more money lines the government’s pockets. It is a horribly non-linear scheme and not particularly attractive to us. In Australia with the royalty scheme, the higher oil prices get the more money that companies make which is a good situation to be in.
What is the envisioned long-term portfolio balance of Orion’s assets?
We do not have a particular balance objective. We will take whatever comes, oil or gas. Clearly onshore oil is preferable since it can be monetized immediately. There has been a lot of excitement about gas in Australia but one needs analyze it on a very long timeframe. I think that is what people do not recognize when looking at the bigger companies – BG, ConocoPhillips, Petronas, etc. – who have been acquiring gas in Australia. Their time horizon is a lot longer than ours. They are buying gas for 2050. We want to find something that can be monetized by 2015. We prefer oil, but the right sort of gas asset given that the market is hot for gas could be monetized by selling it to someone else rather than producing it ourselves. We will keep that option open.
You have a very extensive and international background that has spanned many sectors in this industry. What do you believe your comparative advantage to be that blends well with Orion’s growth and trajectory?
I think my particular advantage is that I have worked both sides of the fence. I have worked numerous technical jobs so I understand the industry fairly well from that perspective. But I have also worked in the finance sector for quite a long time. I understand how this industry is financed. A key thing for small companies is that I understand equity markets and where my next dollar could come from. It is very important to manage the cash that we have to maximize bang for buck. That includes farm-ins and minimizing risky situations where we can run out of money. When one runs out of money in this business it is very hard to run to financial markets to ask for more. My dual background of working both sides of the industry – finance and technical experience – is a strong skill set.
Where will Orion be on the path to becoming the next Woodside in five to ten years?
I think we will be 10% along the way. That by then we will have found reasonable amount of reserves and that we are self-sustaining to a large extent. Although no company ends up being totally self sustaining as they continue to grow. As large as Woodside is, they are still raising equity and debt capital. Again, it will require a bit of luck and good management. It is ambitious but we are explorers and explorers have to be optimists who see the glass as half full. You have to learn to take a knock and get back up when times are tough or if holes are not drilled successfully. It is almost like going to the casino. You don’t go to the casino and play one bet. You keep playing the odds. Provided that the odds are played properly sooner or later a little bit of luck comes your way.