If the past year has been painful for the big oil players, it has been agony for their junior counterparts. At the end of 2011, the combined market capitalisation of oil and gas producers on the Alternative Investment Market (Aim) - where most small oil stocks are traded in London - was £13.9bn, or 22 per cent of the market as a whole. A year ago it was £10.2bn, or 13 per cent. By June, falling production and plummeting investor sentiment had knocked a further 55 per cent from the sector's share of the junior market, to £4.9bn.
The decline hasn't yet led to an avalanche of de-listings, although the number of oil and gas equities - which has remained broadly static in the past four years - has crept down to around 100 constituents, a drop of nearly 6 per cent in a year. And a number of those that remain are fighting for survival. Nigeria-focused Afren -- whose woes were multiplied by allegations of fraud, colossal debt and a desperate last-minute plea for shareholder cash - became the most notable victim when it fell into administration in July.
The reason for the added pain for small-caps is simple. As the oil majors have demonstrated in their mothballing of $200bn (£120bn) of new projects since the oil price fall, exploration is the first thing to be cut. Unfortunately for many of the asset-light junior producers, their entire business is at the exploration stage, and predicated on attracting further capital injections to stay afloat. With oil at half the price many explorers and investors were hoping for just a year ago, risk capital therefore becomes twice as expensive. It's no surprise then that in the first six months of 2015, the sector raised just £100m on Aim from 93 issues, down from £336m via 136 issues in the same period in 2014.
Oil and gas producer issues on Aim 2011-2015
It's not all bad news, though. In April, energy consultancy Wood Mackenzie found that the price fall had led to average exploration cost deflation of 33 per cent across the industry, meaning that a good proportion of the strain is being passed on to the oil services sector. "The time is right," concluded the report, "for strong explorers to capitalise and do more with less, increasing their drilling in high-impact plays".
Deep in the heart of Texas
And while 2015 has been a particularly bad year to raise capital, a few companies managed to secure funding before global oversupply of the black stuff was quite so apparent. One was Pantheon Resources (PANR), which squeaked through a $30m (£18.5m) placing on Aim last October in order to up its stake in its Kara Farms joint venture and take a 50 per cent share in three project areas in the Woodbine-Eagleford sandstone in East Texas. The company's chief executive, Jay Cheatham, described the onshore play as "the most exciting prospect" he has been involved in during his 40-year career in oil. Given the company's prospective resource estimates at the time of the placing were based on $100-a-barrel oil, it's fair to say the capital raise would probably have failed if it had come any later. But with Texas crude hovering at $40, Pantheon has doubled down on a two-well drilling programme, home to what the company hopes is some of its most profitable acreage.
Results from the spudding of the first of those wells should arrive next month provided there are no hiccups to the drilling programme, which at a cost of around $5m is 30 per cent less than previously forecast and in line with Wood Mackenzie's projections. Conscious of the need to sell the project when few believe drilling can be profitable, Mr Cheatham last month claimed that Pantheon's acreage has "the potential to be profitable at below $30 a barrel" given the abundant local infrastructure and "the anticipated exceptional reservoir qualities". So confident is Pantheon of these qualities that it believes a successful well "could achieve operating costs as low as $1 per barrel of oil". The market appears less ebullient; a steady flow of operational updates have failed to stop share selling by Investec and a summer slump in the shares.
Adjusting to oil's 'new normal'
It may be that in adjusting to oil's 'new normal', some juniors will feel forced to ratchet up the sensationalism, and go further in their claims of prospect quality. Others have had no option but to stay bullish. Andrew Knott, chief executive of Savannah Petroleum (SAVP) - which was the last oil and gas producer to join the London market when it raised $50m on admission last August - believes now is the perfect time for the industry to be investing. Impressively, Savannah has successfully convinced others of its worldview, and last month raised $36m (£23.4m) from the market to take its stake in the 'Rift' portion of Niger's Agadem Basin to 50 per cent.
The Rift has some excellent characteristics. The previous production licensee, China National Petroleum Company, discovered 975m barrels of proven and probable (2P) reserves across the Agadem Basin and drilled with a 75 per cent success rate before relinquishing half of the block under the terms of a sharing agreement with the Niger government. Savannah's own licensing agreement with Niger has been struck on attractive terms, and with a 50 per cent stake in the field, the Aim group now has a far stronger hand in any farm-out discussions.
But despite its recent successes, Savannah will soon have to deal with the two major issues facing all junior explorers: the current difficulty in attracting a larger farm-out or joint venture partner, and the reluctance for equity markets to back expensive drilling programmes. As analysts at RBC Capital put it, Savannah is "opportunity-rich but cash-constrained".
IC VIEW: Even with good cash flow and balance sheet strength, there is so much against the dividend-free portion of the oil and gas sector that it is difficult to make the case for investment; neither the low-level production nor the exploration models offer much upside to shareholders. As production costs accommodate the price realities - and assets swap hands for knockdown prices - gems will no doubt emerge. Until then, calling the winners is not a game for the faint-hearted.
