Carnarvon Energy returns to the scene of its big success

It’s no longer politically correct to follow the advice of the late J. Paul Getty who attributed his extreme wealth to a formula of “rising early, working late, and striking oil”, but it might work in the case of Carnarvon Energy (ASX: CVN) as the oil price hits US$84 barrel (A$116/bbl), up 50% in 12 months.

Getty, once ranked as the world’s richest man thanks his control of the Getty Oil Company was also famously frugal even with investment advice because few people can become directly involved in oil exploration – or want to.

But, for investors who recognise that oil and gas will remain part of the overall energy mix for many years to come, there are ongoing drilling programs which promise rapid returns if they achieve Getty’s third wealth creation rule and strike oil.

Carnarvon did that in mid-2018 when it discovered the Dorado oilfield off the north-west coast of Western Australia in a joint venture with sector leader Santos (ASX: STO). At the time, Carnarvon was elevated from the status of penny dreadful to stock market star, rocketing up by more than 300% from $0.14 to a peak of $0.62.

A price slide followed the excitement of discovery with capital raisings and a collapse in the oil price in early 2020 to as low as US$20/bbl (and less in futures trading) knocking Carnarvon back to its pre-discovery price of $0.14.

History might be repeating as Carnarvon launches a busy drilling program on multiple targets, a final investment decision gets closer for Dorado, and oil sells for $US10/bbl (A$14/bbl) more than it did at the time of the 2018 discovery.

Resurrecting the Buffalo oilfield

The first well of the year is already underway with Carnarvon leading a project to resurrect the mothballed Buffalo oilfield in the Timor Sea. The oilfield last produced in 2004 potentially leaving, in oil industry jargon, a reservoir of “attic oil”, liquids above the main oil column deemed uneconomic at the time – when oil was trading around US$35/bbl (A$48/bbl).

The Buffalo No.10 well was spudded late last month and reported last week to have reached a depth of 804 metres on its way to a target of between 3,200m and 3,300m, which should be reached late this month or early February.

Perth stockbroking firm Euroz Hartleys describes Buffalo, which is 50% owned by Carnarvon, as “a material well” which should be easy to develop because of its shallow water depth (30m) and could generate a higher internal rate of investment return than Dorado.

Perhaps most importantly, success at Buffalo would elevate Carnarvon from the ranks of explorer to producer in what could be a useful warm-up for the bigger (and Santos led) Dorado project, which started a final investment decision (FID) process last June and is expected to win a formal go-ahead decision by next June with first production in early 2026.

Long before Dorado proceeds, Carnarvon will know a lot more about the geology and oil production potential of the surrounding tenement as a round of drilling gets underway to see if Dorado could be more than a solitary oilfield.

At the same time that Buffalo No.10 is drilling over the next few weeks, Carnarvon will spud the Pavo No.1 well located 42km east of Dorado, in 88m of water with desktop analysis indicating the potential for a reservoir capable of yielding 82 million barrels of liquids and 108 billion cubic feet of gas – an estimate that can only be proven (one way or the other) by applying Getty’s third wealth creation maxim: drill.

After Pavo, which is expected to take two months to reach its target depth, the contracted drilling rig Noble Tom Prosser is scheduled to move to the Apus target about 20km to the south-west.

2022 could be a year of transformation

Carnarvon management describes 2022 as a “transformation year” thanks to the progress being made on bringing the 20%-owned Dorado field (80% Santos) to the point of development approval and the multiple drilling programs close to Dorado and further north in the Timor Sea.

On the market, Carnarvon shares have been steadily recovering since their plunge to $0.14 in early 2020, last trading at $0.35, up 40% over the last four months, with the latest price valuing the company at $547 million.

Euroz reckons Carnarvon could rise a lot further with its latest research tipping the stock as a “buy” with a price target of $0.80.

The trigger points for Carnarvon to be rediscovered by investors include drilling at Buffalo, which should reach its target in the next few weeks with a high probability of hitting oil given that the field was still producing at 4,000bbls a day when suspended in 2004.

Other points include the Pavo well, which Euroz believes is a “high impact” project given its close proximity to the Dorado discovery, the Apus follow-up well also near Dorado, and the oil price which has been moving higher as a combination of strong demand and squeezed supply, putting US$100/bbl (A$138/bbl) back on the radar screens of some analysts.

Oil and gas might not be to the taste of every investor but there’s no avoiding the reality that it can deliver handsome rewards and surprise share price moves on drilling and discovery news – as happened with Carnarvon four years ago and which might be replicated this year.