Zargon Oil & Gas Ltd. ("Zargon" or the "Company") (TSX:ZAR)(TSX:ZAR.DB).
FINANCIAL & OPERATING HIGHLIGHTS (THREE MONTHS ENDED JUNE 30, 2012)
-- Second quarter 2012 production averaged 8,290 barrels of oil equivalent
as compared to 8,834 barrels of oil equivalent for the preceding
quarter. Oil and liquids production averaged 5,384 barrels per day, a
two percent decline from the preceding quarter, due in part to seasonal
spring access restrictions and property sales. Second quarter 2012
natural gas production averaged 17.44 million cubic feet per day, a 13
percent decline from the preceding quarter. The reduction in natural gas
production volumes was primarily due to the shut-in of natural gas wells
due to very low natural gas prices.
-- Funds flow from operating activities of $12.37 million were nine percent
lower than the $13.52 million recorded in the prior quarter, and 10
percent lower than the $13.76 million reported in the second quarter of
2011. Funds flow from operating activities for the 2012 second quarter
included reductions of $0.69 million of realized hedge losses, $0.56
million of asset retirement expenses and $0.57 million of prior period
royalty adjustments.
-- Three monthly cash dividends of $0.10 per common share were declared in
the second quarter of 2012 for a total of $8.86 million ($7.45 million
after accounting for the common shares issued under the Dividend
Reinvestment Plan ("DRIP") in lieu of cash dividends). These cash
dividends (net of the DRIP) were equivalent to a payout ratio of 60
percent of funds flow from operating activities.
-- Second quarter 2012 exploration and development capital expenditures
(excluding property acquisitions and dispositions) were $9.18 million
and included $0.90 million of expenditures related to the Little Bow
Alkaline Surfactant Polymer ("ASP") tertiary recovery project. On June
15, 2012, Zargon concluded the sale of 275 barrels of oil per day from
Manitoba and selected southeast Saskatchewan properties, to realize net
disposition proceeds of $36.07 million. With these dispositions,
Zargon's quarter end debt net of working capital (excluding unrealized
derivative assets/liabilities and deferred taxes) declined 23 percent to
$95.20 million which includes the $57.50 million of convertible
unsecured subordinated debentures issued during the quarter.
-- During the quarter, Zargon issued five-year convertible unsecured
subordinated debentures for gross proceeds of $57.50 million that will
provide support for Zargon's Little Bow ASP project and other long-life
oil exploitation projects. During the quarter, committed credit
facilities of $165 million were also amended and renewed. With the
issuance of the convertible debenture, Zargon has more than $125 million
of credit available on its $165 million of authorized bank lines.
Three Months Ended Six Months Ended June
June 30, 30,
----------------------------------------------------------------------------
Percent Percent
(unaudited) 2012 2011 Change 2012 2011 Change
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Financial Highlights
Income and Investments ($
millions)
Gross petroleum and
natural gas sales 38.52 48.47 (21) 83.16 95.41 (13)
Funds flow from
operating activities 12.37 13.76 (10) 25.89 28.98 (11)
Cash flows from
operating activities 18.00 13.06 38 29.86 36.54 (18)
Cash dividends (net of
Dividend Reinvestment
Plan) 7.45 10.47 (29) 14.90 20.12 (26)
Net earnings 10.54 12.67 (17) 8.53 3.56 140
Field capital and
administrative asset
expenditures 9.22 7.87 17 30.07 30.17 -
Net property and
corporate acquisitions/
(dispositions) (36.07) 0.15 (35.97) (1.79)
Net capital
expenditures/
(dispositions) (26.85) 8.02 (5.90) 28.38
Per Share, Diluted
Cash flows from
operating activities
($/share) 0.57 0.45 27 0.93 1.29 (28)
Net earnings ($/share) 0.34 0.43 (21) 0.28 0.13 115
Cash Dividends ($/common
share) 0.30 0.42 (29) 0.60 0.84 (29)
Balance Sheet at Period
End ($ millions)
Property and equipment 386.81 414.97 (7)
Exploration and
evaluation assets 23.25 27.07 (14)
Total assets 446.41 472.58 (6)
Working capital
deficiency 13.56 6.33 114
Bank debt 24.14 95.79 (75)
Convertible debenture at
maturity 57.50 - -
Shareholders' equity 222.22 232.57 (4)
Weighted Average Shares
Outstanding for the
Period (millions) - Basic 29.52 28.93 2 29.46 28.02 5
Weighted Average Shares
Outstanding for the
Period (millions) -
Diluted 32.62 29.14 12 32.65 28.25 16
Total Common Shares
Outstanding at Period End
(millions) 29.64 29.13 2
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Funds flow from operating activities is an additional GAAP term that
represents net earnings/(losses) and asset retirement expenditures except
for non-cash items.
Three Months Ended June Six Months Ended June
30, 30,
----------------------------------------------------------------------------
Percent Percent
(unaudited) 2012 2011 Change 2012 2011 Change
----------------------------------------------------------------------------
Operating Highlights
Average Daily Production
Oil and liquids (bbl/d) 5,384 5,034 7 5,440 5,461 -
Natural gas (mmcf/d) 17.44 21.91 (20) 18.73 21.91 (15)
Equivalent (boe/d) 8,290 8,686 (5) 8,562 9,113 (6)
Equivalent per million
common shares (boe/d) 280 298 (6) 289 323 (11)
Oil and liquids per
million common shares
(bbl/d) 182 173 5 184 193 (5)
Average Selling Price
(before the impact of
financial risk management
contracts)
Oil and liquids ($/bbl) 73.17 89.55 (18) 77.59 81.90 (5)
Natural gas ($/mcf) 1.68 3.74 (55) 1.86 3.65 (49)
Netback ($/boe)
Petroleum and natural
gas sales 51.06 61.32 (17) 53.37 57.85 (8)
Royalties (9.90) (12.05) 18 (10.22) (10.37) 1
Realized loss on
derivatives (0.92) (6.39) 86 (2.42) (4.88) 50
Production and operating
costs (16.29) (17.26) 6 (16.43) (16.25) (1)
Transportation (0.51) (0.57) 11 (0.49) (0.52) 6
Operating netback 23.44 25.05 (6) 23.81 25.83 (8)
Wells Drilled, Net 0.2 2.1 (90) 9.8 9.6 2
Undeveloped Land at Period
End (thousand net acres) 368 478 (23)
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The calculation of barrels of oil equivalent ("boe") is based on the
conversion ratio that six thousand cubic feet of natural gas is equivalent
to one barrel of oil.
Average daily production per million common shares is calculated using the
diluted weighted average number of common shares outstanding during the
period but excluding any dilution that could result from the redemption of
the convertible debentures by the debenture holder at a conversion price of
$18.80.
Reduced Monthly Dividend of $0.06 per Share Commencing in the Fourth Quarter
In response to continuing weakness in both spot and forward commodity price
markets, wider differentials for Alberta and Williston Basin crude oil, and
increased uncertainty in the capital and property disposition markets, the Board
of Directors of Zargon has revised Zargon's monthly dividend policy from $0.10
per share to $0.06 per share commencing in the fourth quarter of 2012. In the
interim, Zargon's Board has conditionally approved a $0.10 per share dividend
for August and September 2012, payable on September 17th and October 15th,
respectively.
These measures are intended to safeguard Zargon's financial and balance sheet
strength and provide the additional financial flexibility required to continue
to capitalize on Zargon's high-quality oil exploitation initiatives.
Field Activities
Field activities in the second quarter of 2012 were mostly limited to the
completion and tie-in of wells drilled last winter. Reflecting spring break-up,
the second quarter of 2012 drilling program was restricted to 0.2 net oil wells
with a 100 percent success rate. For the year, Zargon has drilled 9.8 net oil
wells.
Following a quiet summer, an active drilling program will resume this fall.
Prior to year end, oil exploitation horizontal locations will be drilled at
Bellshill Lake (three), Hamilton Lake (three), Taber South (three) and for
Williston Basin Frobisher targets (four). Each of these locations target
increased oil recoveries from existing oil pools. In aggregate, Zargon has
identified more than 115 horizontal locations in six conventional (non-ASP) oil
exploitation projects, which will provide a high-graded drilling inventory for
many years. Each of these six oil exploitation projects are (or will be)
pressure supported by water injections or natural reservoir aquifers and
consequently provide long-life low-decline oil volumes that will support future
dividends. A summary of these six oil exploitation projects is provided below:
----------------------------------------------------------------------------
Locations
Recognized in
Reservoir Identified 2011 Year End
Project Formation Drive Locations Reserves
----------------------------------------------------------------------------
Eventually
Hamilton Lake Viking Waterflood 30+ 0
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Eventually
Killam Mannville Waterflood 15 3
----------------------------------------------------------------------------
Bellshill
Lake Mannville Strong Aquifer 5 0
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Partial
Taber South Sunburst Waterflood 10 1
----------------------------------------------------------------------------
Williston
Basin
Structures Frobisher Strong Aquifer 15+ 1
----------------------------------------------------------------------------
Williston
Basin Mostly
Drainage Midale Waterflood 40+ 2
----------------------------------------------------------------------------
Ultimately
Pressure
Total Varied Supported 115+ 7
----------------------------------------------------------------------------
For further information regarding the potential and economics of these projects,
please refer to our updated corporate presentation, which is available at
www.zargon.ca.
Dividend Sustainability Calculation
Zargon's six non-ASP oil exploitation projects provide a quality drilling
inventory that is expected to deliver stable per share oil production for the
foreseeable future. Using assumptions of a 15 percent DRIP participation rate,
an average corporate oil production decline of 21 percent per year with
historical oil production addition efficiencies of $40,000 per barrel per day,
we estimate that 25 net "multi-well program type" wells (or $50 million of
expenditures) are required annually to offset oil production declines in the
2013-2015 period. With this capital requirement set, the free cash flow
available for dividends in an $85 Cdn. per barrel (FOB Edm.) price environment
has been estimated to support a $0.06 per share per month dividend. The
calculation is based on current forward natural gas prices, total operating,
transportation and general and administrative ("G&A") costs of $21 per barrel of
oil equivalent, and demonstrates stable oil production volumes on a per share
basis. With these pricing and efficiency estimates, debt levels remain unchanged
after paying a stable $0.06 per share monthly dividend. At this dividend level,
Zargon's $125+ million of unutilized bank lines remain available to provide oil
production and reserve growth by financing of the Little Bow ASP project or
possibly through property acquisitions. For further information regarding the
dividend sustainability calculation and the related input parameters, please
refer to our updated corporate presentation, which is available at
www.zargon.ca.
Little Bow Alkaline Surfactant Polymer ("ASP") Project
In addition to the above mentioned six conventional oil exploitation projects,
Zargon is developing a tertiary recovery ASP oil exploitation project at Little
Bow, Alberta. This ASP project entails the injection of a dilute chemical
solution into a partially depleted reservoir to recover incremental oil
reserves. In its year end review, McDaniel and Associates Consultants Ltd.
assigned 4.15 million barrels of probable undeveloped oil equivalent reserves to
Zargon's working interest in phases 1 and 2 of the project.
To date in 2012, Zargon has completed the front-end engineering and design
("FEED") studies, finalized the selection of key alkaline and polymer
components, and has obtained scheme approval from the Energy Resources
Conservation Board ("ERCB"). Detailed design is being completed and the
procurement of long-lead-time equipment has commenced. Subsequent to quarter
end, Zargon acquired operatorship and majority ownership of the Travers Gas
Plant which is directly adjacent to our Little Bow oil facilities and is
expected to provide solution gas processing facilities for the life of the ASP
project.
Later this fall, Zargon will execute well workovers and pipeline upgrades
required for the ASP project, but which also benefit existing waterflood
operations in the near term. These 2012 ASP development activities, totalling
$15 million in expenditures will provide a "shovel-ready" project which can be
fully operational within one year of being awarded the final construction
contracts.
In order to avoid a winter construction season and to gain a better
understanding of the effect of the recent volatile oil prices and increased
Alberta oil price differentials will have on mid-decade oil pricing
expectations, we have delayed the awarding of the ASP facility construction
contracts until the end of the year. This deferral will also allow us to monitor
the status of the Alberta government tertiary royalty review and to incorporate
the ASP facility design into the now acquired existing Travers Gas Plant
facility site footprint. We will also continue to evaluate alternative financing
options for this project, which may include: forward hedges, facility leasing or
third party participation in the project through partial farmouts, sell-downs or
joint ventures, and non-core property dispositions. With year end construction
contracts, initial chemical injections are projected in the fourth quarter 2013
and a significant oil production response is expected in the second quarter of
2014.
The total capital cost of phases 1 and 2 of the Little Bow ASP project is
approximately $52 million (as spent dollars). This is comprised of $15 million
of expenditures in 2012, $25 million in 2013, and the remaining $12 million of
the capital costs relating to the project's phase 2 implementation scheduled for
2014 and 2015. The estimated total phase 1 and 2 chemical cost for the 2013-2019
chemical injection period will be capitalized and is $47 million (as spent
dollars).
Based on this capital program, phase 1 and 2 peak incremental oil production is
estimated at 1,500 barrels of oil per day in 2017. Using these rates with an
estimated field oil price of $70 per barrel, a 12 percent incremental tertiary
royalty rate, and operating costs of $12 per barrel of incremental oil, the
project is forecast to provide a field netback of approximately $50 per barrel
of incremental oil production volumes. Follow-on capital expenditures for phases
3 and 4 of the Little Bow ASP project are expected to be completed by 2017 with
forecasted total combined phase 1-4 project peak production rates expected to
occur in 2020. For further information regarding the Little Bow ASP project,
please refer our updated corporate presentation, which is available at
www.zargon.ca.
2012 Outlook
Further to Zargon's February 15, 2012 press release, Zargon's 2012 non-ASP field
capital budget provides for 23 net oil exploitation wells and remains set at $55
million, of which $28.55 million has been spent in the first two quarters of the
year. Consistent with the prior two years, the budget reflects essentially no
natural gas related expenditures. With a more than budgeted $35.97 million of
net property dispositions now concluded in the first half of 2012, further
property dispositions are not anticipated in 2012.
In addition to the $55 million of non-ASP capital expenditures, Zargon is
projecting to spend $15 million on the Little Bow ASP project capital in 2012 of
which $1.46 million has already been spent in the first six months of 2012.
During 2012, Zargon is working to improve its operating and G&A cost structure
by high-grading its activities to focus on six conventional (non-ASP) clearly
defined long-life oil exploitation initiatives. In addition, a comprehensive
natural gas property review has been concluded to identify well shut-ins,
facility consolidation and other fixed-cost saving opportunities that will
permit improved returns when natural gas prices improve. In aggregate, three
million cubic feet of natural gas production per day has been shut-in for the
summer months until higher natural gas prices are realized. Early indications
suggest that cost improvements are being made and that a combined operating,
transportation and G&A cost of $21 per barrel of oil equivalent can be realized.
Production Guidance
On February 15, 2012, Zargon provided updated 2012 annual oil production rate
guidance of 5,400 barrels of oil and liquids per day. First quarter actual
volumes were 5,496 barrels of oil and liquids per day and exceeded guidance
levels. Second quarter actual volumes were 5,384 barrels of oil per day and
exceeded guidance levels, after providing for the mid-June property dispositions
of 275 barrels of oil per day. In the June 18, 2012 press release announcing the
Williston Basin property disposition, updated guidance for the second half 2012
production was provided at 5,200 barrels of oil and liquids per day. These
production guidance levels are reconfirmed with fourth quarter volumes climbing
to an estimated 5,350 barrels of oil and liquids per day, up from 5,050 barrels
of oil per day in the third quarter, as new wells from the fall oil exploitation
drilling programs are placed on production.
With this summer's shut-in of three million cubic feet per day of natural gas
volumes, the second quarter production volumes of 17.44 million cubic feet per
day did not meet the original February 15, 2012 natural gas production guidance
volumes of 18.60 million cubic feet per day. Currently, the timing for the
return of the shut-in production volumes is price sensitive and remains
uncertain, although we do anticipate that the average second half 2012 natural
gas production volumes will exceed the most recent production guidance levels of
16.50 million cubic feet per day.
Forward-Looking Statements
This press release offers our assessment of Zargon's future plans and operations
as at August 8, 2012, and contains certain forward-looking information and
statements within the meaning of applicable securities laws. The use of any of
the words "anticipate", "continue", "estimate", "expect", "forecast", "may",
"will", "project", "should", "plan", "intend", "believe" and similar expressions
(including the negatives thereof) are intended to identify forward-looking
information or statements. In particular, but without limiting the foregoing,
this news release contains forward-looking information and statements pertaining
to the following: our dividend policy and the amount of future dividends;
various plans, forecasts and estimates as to drilling locations, operations,
completions and other operational forecasts referred to under "Reduced Monthly
Dividend of $0.06 per Share Commencing in the Fourth Quarter", and the results
therefrom under the heading "Field Activities"; anticipated future oil
production and decline rates, various pricing efficiency estimates and other
factors relating to our dividend policy, amount of future dividend, future debt
levels and financing sources and use of funds referred to under "Dividend
Sustainability Calculation"; guidance as to our 2012 capital budget, including
the allocation thereof and the sources of funding and various plans, forecasts
and estimates as to drilling cost reduction initiatives, and other operational
forecasts and plans and results therefrom under the heading "2012 Outlook"; our
plans with respect to our Little Bow ASP project and the results therefrom
referred to under the heading "Little Bow Alkaline Surfactant Polymer ("ASP")
Project"; our use of funds from the issuance of convertible unsecured
subordinated debentures and bank line referred to under "Financial & Operating
Highlights" and "2012 Outlook", and all matters, including guidance as to our
estimated 2012 production and production mix, and anticipated decline rates,
under the heading "Production Guidance".
The forward-looking information and statements included in this news release are
not guarantees of future performance and should not be unduly relied upon. Such
information and statements involve known and unknown risks, uncertainties and
other factors that may cause actual results or events to differ materially from
those anticipated in such forward-looking information or statements including,
without limitation: those relating to results of operations and financial
condition; general economic conditions; industry conditions; changes in
regulatory and taxation regimes; volatility of commodity prices; escalation of
operating and capital costs; currency fluctuations; the availability of
services; imprecision of reserve estimates; geological, technical, drilling and
processing problems; environmental risks; weather; the lack of availability of
qualified personnel or management; stock market volatility; the ability to
access sufficient capital from internal and external sources; and competition
from other industry participants for, among other things, capital, services,
acquisitions of reserves, undeveloped lands and skilled personnel. Risks are
described in more detail in our Annual Information Form, which is available on
our website and at www.sedar.com. Forward-looking statements are provided to
allow investors to have a greater understanding of our business.
You are cautioned that the assumptions used in the preparation of such
information and statements, including, among other things: future oil and
natural gas prices; future capital expenditure levels; future production levels;
future exchange rates; the cost of developing and expanding our assets; our
ability to obtain equipment in a timely manner to carry out development
activities; our ability to market our oil and natural gas successfully to
current and new customers; the impact of increasing competition; the
availability of adequate and acceptable debt and equity financing and funds from
operations to fund our planned expenditures; and our ability to add production
and reserves through our development and acquisition activities, although
considered reasonable at the time of preparation, may prove to be imprecise and,
as such, undue reliance should not be placed on forward-looking statements. Our
actual results, performance, or achievement could differ materially from those
expressed in, or implied by, these forward-looking statements. We can give no
assurance that any of the events anticipated will transpire or occur, or if any
of them do, what benefits we will derive from them. The forward-looking
information and statements contained in this document is expressly qualified by
this cautionary statement. Our policy for updating forward-looking statements is
that Zargon disclaims, except as required by law, any intention or obligation to
update or revise any forward-looking statements, whether as a result of new
information, future events or otherwise.
Additional GAAP Financial Measures
Zargon uses the following terms for measurement within this press release that
do not have a standardized prescribed meaning under Canadian generally accepted
accounting principles ("GAAP") and these measurements may not be comparable with
the calculation of similar measurements of other entities.
The terms "funds flow from operating activities" and "operating netback per boe"
in this press release are not recognized measures under GAAP. Management of
Zargon believes that in addition to net earnings and cash flows from operating
activities as defined by GAAP, these terms are useful supplemental measures to
evaluate operating performance and assess leverage. Users are cautioned,
however, that these measures should not be construed as an alternative to net
earnings or cash flows from operating activities determined in accordance with
GAAP as an indication of Zargon's performance.
Zargon considers funds flow from operating activities to be an important measure
of Zargon's ability to generate the funds necessary to finance capital
expenditures, pay dividends and repay debt. All references to funds flow from
operating activities throughout this press release are based on cash provided by
operating activities before the change in non-cash working capital since Zargon
believes the timing of collection, payment or incurrence of these items involves
a high degree of discretion and, as such, may not be useful for evaluating
Zargon's operating performance. Zargon's method of calculating funds flow from
operating activities may differ from that of other companies and, accordingly,
may not be comparable to measures used by other companies. See the MD&A for the
three and six months ended June 30, 2012 and 2011 for a reconciliation of cash
flows from operating activities to funds flow from operating activities.
51-101 Advisory
In conformity with National Instrument 51-101, Standards for Disclosure of Oil
and Gas Activities ("NI 51-101"), natural gas volumes have been converted to a
barrel of oil equivalent ("boe") using six thousand cubic feet of gas to one
barrel of oil. In certain circumstances, natural gas liquid volumes have been
converted to a thousand cubic feet equivalent ("mcfe") on the basis of one
barrel of natural gas liquids to six thousand cubic feet of gas. Boes and mcfes
may be misleading, particularly if used in isolation. A conversion ratio of one
barrel to six thousand cubic feet of natural gas is based on an energy
equivalency conversion method primarily applicable at the burner tip and does
not represent a value equivalency at the wellhead. Given that the value ratio
based on the current price of crude oil as compared to natural gas is
significantly different from the energy equivalency of 6:1, utilizing a
conversion ratio on a 6:1 basis may be misleading as an indication of value.
Filings
Zargon has filed with Canadian securities regulatory authorities its unaudited
financial statements for the three and six months ended June 30, 2012 and the
accompanying Managements' Discussion and Analysis ("MD&A"). These filings are
available under Zargon's SEDAR profile at www.sedar.com. Full pdf versions of
our three and six months ended June 30, 2012 unaudited financial statements and
the accompanying MD&A are available on our website at www.zargon.ca.
About Zargon
Based in Calgary, Alberta, Zargon's securities trade on the Toronto Stock
Exchange and there are currently approximately 29.638 million common shares
(ZAR) outstanding.
Zargon Oil & Gas Ltd. is a Calgary based oil and natural gas company working in
the Western Canadian and Williston sedimentary basins that has delivered a long
history of returns, dividends (distributions) and value creation. Zargon's
business is focused on oil exploitation projects where we employ a careful
reservoir engineering inspired technical approach to profitably increase oil
recovery factors from existing oil reservoirs.
In order to learn more about Zargon, we encourage you to visit Zargon's website
at www.zargon.ca where you will find a current shareholder presentation,
financial reports and historical news releases.
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