Posted on 04 July 2012.
The best way to make money in oil stocks these days is to bet on companies that are redeveloping old oil fields. Putting new life into existing fields is the best and most cost effective way to increase oil production without spending a lot of money. Naturally, this strategy boosts profits because the companies that pursue it don’t have to build a lot of new infrastructure or engage in expensive exploration.
Tapping existing fields is the most cost effective method for smaller companies to generate a lot of cash. It’s the oil exploration equivalent of value investing: find an existing field with a lot of good value left that’s been ignored by others and develop it. One smaller company pursuing this strategy is Citadel Exploration (COIL) of Ojai, Calif.
Instead of spending a lot of money flying off to the jungle or the tundra, Citadel is traveling to the wilds of San Benito County, Calif., a few hours drive from its offices, to tap the Bitterwater sub-basin of the Salinas Basin with its Project Indian. The Salinas Basin is part of the San Ardo oil field. Project Indian could pay off because Citadel’s geologists think that there could be over 100 million barrels of heavy oil in the area. The area is not new to exploration: Chevron drilled there extensively in the 1970s.
Project Indian is an example of cost effective oil exploration that can generate high profits. It takes advantage of work done by larger and better capitalized companies. These include Occidental Petroleum (OXY), which owns Vintage Petroleum, from which Citadel is leasing 12 acres.
Companies like Citadel are able to get oil out of existing fields because of technologies such as cyclic steam injection. This process involves pumping steam into older wells to force up oil that wasn’t pumped out by using earlier methods. It is being used to get new production out of old fields all over the world. Cyclic steaming is an example of an enhanced recovery method. Reuters estimated that two-thirds of the oil ever recovered has been pumped through such methods.
Even major oil companies like Exxon Mobil (XOM) are getting into the act. Exxon and the Russian state oil company Rosneft plan plan to use another enhanced recovery method, hydraulic fracking, to wring up to13.2 billion barrels of oil out of the Bazhenov oil formation in Siberia. This field was developed by the Soviets in the 1960s, but it was thought to be pumped out. New technology will allow Exxon to open up Bazhenov, much as Citadel would like to do at Bitterwater.
Enhanced Recovery can be Costly
Enhanced recovery methods, such as cyclic steam, can save oil producers money because they enable them to pump in areas where expensive infrastructure, such as pipelines, roads, and power lines, has already been built. Another advantage is that the process enables oil producers to work in politically stable countries like the United States, where politics probably will not interfere in production.
Yet such methods can be costly; it costs around $13.50 a barrel to use cyclic steam. That means oil prices will have to remain fairly high for Citadel to make a profit and generate a dividend. With crude oil prices over $80 a barrel on June 29, 2012, it seems likely that Citadel can generate a profit from this field.
Another advantage to using enhanced recovery methods is that their use can get new fields into production quickly. Instead of spending years building roads and pipelines, the company can start producing oil as soon as new wells are drilled and steaming begins. That means a new field can be put into production in a few weeks or months.
So Citadel could be in a position to make large profits out of Project Indian because it has found a lot of oil at a proven field. Instead of taking risks, it is trying to recover oil that others have already discovered, but couldn’t get.
Such enhanced recovery is the future of the oil business because it is smart and cost effective. BP (BP) estimates that it will be able recover up to two billion barrels of oil from existing reserves by using a variety of enhanced recovery techniques. That enables producers to extend the life of oil fields and generate profits with existing resources.
Citadel Exploration is in an excellent position to tap existing fields in California. Its location in Oaj gives it access to several major oil regions, including the Los Angeles Basin, the Salinas Half-Moon Basin, and the San Joaquin Basin, all of which should be very familiar to the company’s management team. At least three of the company’s officers have extensive experience in oil and gas operations in California.
Chief Executive Officer Armen Nahabedian was in charge of drilling operations for his family’s company, the Nahabedian Exploration Group. In that position, he oversaw some of the deepest exploratory wells drilled in California. Chairman of the Board Dan Szymanski served as Manager of Business Development and Manager of Financial Planning at Occidental Petroleum’s corporate headquarters in Los Angeles. Szymanski also served as manager for 42 oil and gas fields in the Sacramento and San Joaquin valleys, so he is intimately familiar with the oil fields in the region.
Small oil companies that specialize in enhanced recovery, such as Citadel, could be one of the best growth bets in the oil field. They can develop production quickly without taking great risks, and they can tap a proven resource. Smaller producers such as Citadel that have a proven relationship with a large oil company such as Occidental are in an even better position.
Such a relationship can get a company like Citadel access to existing oil fields with existing infrastructure and proven oil reserves. Occidental has dozens of existing oil fields and leases in California that Citadel can tap.
The New Frontier for Oil Exploration
The growth in oil stocks in the next few years will come not from the giants such as Chevron (CVX) or from new fields, but from smaller companies willing to use enhanced recovery to tap existing fields. Larger oil companies will increasingly turn to smaller companies with proven experience in technologies, such as cyclic steam for their recovery efforts.
The big boys will call upon these smaller players because they are more cost effective. Citadel Exploration, which is based in one of America’s historic oil regions, is well poised to take advantage of this trend. It has the knowledge and experience to redevelop a number of oil leases.
If Citadel can successfully bring Project Indian to completion, its stock could rise above the $1 mark. It will have demonstrated that it is capable of working with established oil companies to tap valuable existing assets in its own backyard. Project Indian should give the company the experience and expertise it needs to develop similar projects in other fields in the San Joaquin and Salinas basins.
The new frontier for oil and oil stocks may not be in the deep sea or countries such as Russia. Instead, it could be right here at home among America’s historic oil fields. Value investors should be able to cash in on that trend by taking a bet on smaller oil and gas companies that specialize in enhanced recovery.
Transparency/Disclaimer: We were paid $150 by a third-party shareholder to write this article. While we vetted each company, researched it thoroughly and done our own due diligence, it is no substitute for your own diligence. Consult a professional investment advisor before you invest.