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THE BIG PICTURE – Falcon poised as South African shale moves closer to green light

Falcon has a vast 7.5mln acres in the Karoo Basin, which could potentially contain between 30 and 500 TCF of technically recoverable gas.

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South Africa’s oil and gas regulator has signalled that the country’s potentially vast shale gas resources could be unlocked.

London quoted Falcon Oil (LON:FOG) is poised among the early movers as South Africa’s nascent shale industry edges ever nearer.

The Petroleum Agency of South Africa (PASA), which will update its guidelines on fracking early next year, has asked Falcon to “review and update” an already-drafted environmental management programme.

Falcon, which is partnered with American major Chevron, described PASA’s move as “encouraging”.

The long-term market for gas in South Africa is likely to be strong, according to PASA, which sees the supply of energy as key to the country’s growth.

It is a point that is underlined by the country’s relatively poor record on power outages and consequently higher cost of industrial operations, such as mining.

The Karoo Basin shale could potentially contain between 30 trillion cubic feet (tcf) and 500tcf of technically recoverable gas, according to PASA.

To put those estimates into context, South Africa’s limited conventional gas industry produced some 40bln cubic feet (bcf), according to figures from 2012, and during the same period about four times more gas was imported from Mozambique.

PASA says, adding a caveat, that the amount of shale gas in South Africa is “highly uncertain”.

A campaign of exploration drilling, fracking and testing is required to better define just how much gas exists within the Karoo shale.

PASA also warns that significant infrastructure investments will be needed if South Africa is to become a major producer of shale gas.

It is, therefore, plain to see why the authority is accommodating potential investors in the country’s embryonic shale industry.

Falcon and Chevron together have an enormous 7.5mln acre footprint (via a technical cooperation permit) in the Karoo basin, which is seen as the primary source of South Africa’s shale-based hydrocarbons.

The technical cooperation permit, issued in 2009, was designed to allow regulations governing fracking to be put into place.

It is anticipated that an exploration licence would follow, once the regulatory framework has been defined and once the South African authorities have green-lighted fracking.

Philip O’Quigley, Falcon’s chief executive, in a statement this morning said: “The 7.5mln acres in the Karoo Basin, for which Falcon is seeking an exploration licence, are geologically prospective with the Whitehill shale believed to be thick, organically rich and thermally mature.

“We will update shareholders as and when appropriate."

Other early movers in the Karoo basin include Shell, which intends to test up 24 wells in the exploration phase, and Aussie small cap Challenger Energy (which owns 90% of the South Africa-focused Bundu vehicle).

Analysis from future exploration wells will also be crucial in determining the value and commercial merits of the potentially vast hydrocarbon resource.

“Karoo shale gas is considered to be only a prospective resource at present, and will remain undiscovered until a hydraulically fractured test well produces enough gas to be of commercial interest,” PASA says.

“The economic value of Karoo shale, in turn, will only be known once a statistically significant number of well flow rates have been measured.”

For Falcon, which is currently valued at around £65mln, South Africa and the Karoo represent just one portion of the business – which, in valuation terms at least, has been focussed on an Australian shale play.

Indeed, City broker Charles Stanley recently referred to the early foothold in South Africa as a “free option”, which suggests a regulatory breakthrough would have significant and potentially very positive implications for the AIM shares.

Brendan Long, the Charles Stanley analyst, has a 19.7p price target (current price: 7p) for the stock based solely on Falcon’s Australian project - where it has a stake in a 4.6mln acre position in the Beetaloo basin, estimated to contain 162tcf of gas and 21bn barrels of oil.

The still largely untapped value in Australia is further underlined by a US$200mln farm-out agreed in May with Origin Energy and Sasol, which sees five years’ worth of drilling and exploration paid for.

In Australia, Falcon’s interests have gained considerable momentum in recent months as a result of the farm-out and other preceding enhancements to the venture.

Investors will now also begin to look increasingly to South Africa for catalysts as the government moves closer to a decision on shale and fracking.

Quick facts: Falcon Oil & Gas Ltd

Price: 12.4 GBX

AIM:FOG
Market: AIM
Market Cap: £121.75 m
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