Unit Corp.’s $617 million purchase from Noble may be a game-changer

Unit recently added close to 25,000 net acres to its Granite Wash core area in the Texas Panhandle. Photos courtesy of Unit Corp.

Unit recently added close to 25,000 net acres to its Granite Wash core area in the Texas Panhandle. Photos courtesy of Unit Corp.

Unit Petroleum Company, the E&P arm of Tulsa, Okla.-based Unit Corporation, recently completed what company executives are calling a "transformational event. On July 11, Unit Petroleum acquired Mid-Continent properties from Noble Energy for about $617.1 million. The transaction doubles Unit’s current net acreage position in the Granite Wash play and essentially triples its potential horizontal drilling inventory.

"We always use strategic thinking when it comes to acquisitions, Larry D. Pinkston, Unit’s president and CEO told OGFJ. "These assets benefit all three of our business segments, and we look forward to accelerating development of these assets and delivering growth in all segments to our shareholders over the next several years.

Oil and natural gas exploration and production companies evaluate potential acquisitions in a number of ways, says Unit. The ultimate goal: purchase assets that are fairly priced, provide substantial cash flow from current operations, and provide a long-term drilling inventory for future growth.

Unit is a publicly held energy company engaged through its subsidiaries in oil and natural gas exploration, production, contract drilling, and natural gas gathering and processing.

Purchasing assets that are fairly priced

The western Oklahoma and Texas Panhandle properties acquired by Unit include 84,000 net acres in the Granite Wash, Cleveland, and Marmaton plays, with 900 producing wells and associated production and reserves of 60 MMcfe/d and 264 bcfe, respectively. The transaction with Noble will add about 25,000 net acres to Unit’s Granite Wash core area in the Texas Panhandle with significant resource potential that would include 600 potential horizontal drilling locations.

Industry M&A teams from companies such as LINN Energy and Apache Corp. have been extremely active in the Mid-Continent region. High levels of M&A activity and competition for assets often mean higher prices from sellers holding out for the highest bid. However, based on the purchase price, the transaction seemed to be fairly valued at approximately $10,283 per flowing Mcfe/d, or $2.34 per proved Mcfe, compared to how the markets were valuing the company in July 2012. At the time of the transaction, Unit was trading at an enterprise value to trailing 12 months production and enterprise value to 2011 proved reserves of $10,302 per Mcfe/d and $3.07 per Mcfe, respectively.

"We believe we acquired the properties at a cost that will provide a good economic rate of return to our exploration and production segment for many years, Pinkston told us. "We have the option to control our pace of drilling because most of the locations sit on acreage that is held by production.

Attractive properties

Unit Corp. told OGFJ that cash flow from the properties in 2011 was approximately $99 million and that the assets were immediately self-funding. At first glance, production from the assets seems natural gas weighted. However, the current production profile indicates a more balanced portfolio. During the first quarter of this year, Unit produced 19.7 bcfe, comprised of 58% natural gas, 20% NGLs, and 22% oil. The production stream purchased from Noble breaks out to 65% natural gas, 27% NGLs, and 8% oil.

  "The assest complement out existing operational footprint and current net acreage postion in the Granite Wash and essentially tripling our potential horizontal drilling investory." — Larry Pinkston, Unit Corp. president and CEO

Even more important, however, is the rate of return that these wells are anticipated to deliver. At current commodity prices, Unit’s average Estimated Ultimate Recovery (EUR) for a Granite Wash well is 4.0 bcfe with an average cost per well of $5.5 million.

Using Unit’s data points, industry professionals estimate an internal rate of return (IRR) of 33% in the Granite Wash using $85.00 per barrel of oil and $2.50 per Mcf of gas. Giving no value to the natural gas, a Granite Wash well can generate a 10% IRR, considered breakeven, with a blended rate (crude oil and NGLs) per barrel of $36.96.

"The assets complement our existing operational footprint and current production profile by doubling our current net acreage position in the Granite Wash and essentially tripling our potential horizontal drilling inventory, Pinkston said. "The liquid-rich nature of the production stream will allow us to continue to economically grow our liquids production.

Long-term growth opportunities

Long ago, Unit Corp. established a minimum annual reserve replacement target of 150%, and this acquisition should ensure that the company has the inventory to continue meeting or beating this target for 2012 and beyond. Unit was immediately able to accumulate production and reserves through this acquisition.

Growing by acquisition is technically "easy as long as you have adequate funding. Unit plans to use availability under its credit facility and proceeds from a $400 million add-on senior subordinated debt offering to complete this all-cash transaction. The deal represents almost 40% of the company’s year-end 2011 reserves. And, pro forma, using year-end 2011 reserves, the acquisition pushes Unit’s reserves to approximately 1 tcfe.

However, as professionals in the oil and gas industry know, growing the business requires an active drilling program. The larger you become, the larger your inventory needs to be in order to sustain an adequate level of growth. In addition to the 900 producing wells, Unit has identified approximately 600 potential horizontal drilling locations in the Granite Wash alone. Bear in mind, Unit has been drilling in the Mid-Continent, namely the Granite Wash, for around 30 years and will apply its operational expertise to continue to grow production and reserves.

In addition to 900 producing wells, Unit Corp. has identified 600 potential horizontal drilling locations in the Granite Wash alone.

Tying it all together

When targeting acquisitions, Unit Corp. adds one additional criterion to its evaluation procedures: the assets must economically benefit all three business segments of Unit Corp: E&P, contract drilling, and its midstream operations.

"What better way to grow than to grow as a whole?, said Pinkston.

Unit’s 30 year operational expertise in the Mid-Continent provides tremendous upside for the exploration and production segment. Rather than "chasing the trends by trying to add acreage in areas outside their operational expertise, Unit elected to focus on adding production and reserves in areas it knows best, allowing the company to leverage its operational know-how to develop the Granite Wash properties economically.

About 80,000 of the 84,000 net acres are held by production, allowing Unit to control the pace of drilling and development. The company’s current plan is to run two to three Unit-owned horizontal rigs in the Granite Wash for the remainder of the year with plans to add seven incremental rigs in the play by the end of 2013.

The acquisition also brings two gathering systems to the company’s midstream segment. Beginning at the end of 2014, the gas processing agreement on all the Granite Wash gas expires, and the company has the opportunity to process that natural gas through its midstream company, which is only six miles away from Unit’s Granite Wash acreage.

This transformational acquisition is expected to close in September 2012. The operational synergies created in all three segments will be significant for Unit Corp. With the acquisition, the company believes it has created a roadmap to future success.

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