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Marathon Doubles Up in South Texas Shale Play

In one of the highest-priced transactions to date in any U.S. shale play, Marathon Oil Corp. on Wednesday agreed to pay $3.5 billion, or as much as $25,000/acre, for 141,000 net acres in the Eagle Ford Shale of South Texas.

The Houston-based producer is buying the acreage from Hilcorp Resources Holdings LP, a partnership formed last year by affiliates of equity investor Kohlberg Kravis Roberts & Co. LLP (KKR) and privately held Hilcorp Energy Co. (see Daily GPI, June 15, 2010).

The net acreage (217,000 gross acres), combined with other acquisitions closing this year, would more than double Marathon's Eagle Ford leasehold to 285,000 net acres, the producer said.

During a conference call to discuss the transaction Wednesday, CEO Clarence P. Cazalot Jr. sought to assure investors by noting that the acreage was well worth the price. U.S. stocks plunged Wednesday on weak economic data, and Marathon joined the crowd. Shares traded down from Tuesday by about 2.75%, or $1.49/share, to end the day at $52.68.

"It's very difficult to simply take a price per acre in the play and attach relevance to it," the CEO said. "We believe this acreage...has high liquids content and high pressure, which means higher recovery and returns."

The transaction, he added, would enhance Marathon's "already strong North American position." The average price that Marathon has paid overall for Eagle Ford acreage is "less than $15,000/acre."

The acreage being acquired by Marathon in early May was producing 7,000 net boe/d from 36 wells; 10 additional wells await completion. Production is weighted 80% to liquids; 75% of the output is crude oil and condensate.

According to Wall Street analysts, the price paid by Marathon may be calculated using the value per acre, which prices the deal at about $25,000/acre. However, including the value of the 7,000 boe/net from the producing wells, the transaction's value could be closer to $21,000/acre. Using proven reserves and potential proven reserves numbers, the transaction's price could be between $15,000/acre and $21,000/acre.

The previous high price paid for Eagle Ford acreage was in March when Korea National Oil Corp. agreed to pay $1.55 billion, or $16,000/acre, to Anadarko Petroleum Corp. to form a joint venture (see Daily GPI, March 22).

Hilcorp Resources operates most of the wells (90%) and holds an average 65% working interest. Most of the leasehold being acquired is in Atascosa, Karnes, Gonzales and DeWitt counties.

The total net risked resource potential from the acquisition is estimated at 400-500 million boe. By the end of this year Marathon expects to book up to 100 million boe of proved reserves. Year-end 2011 output from the Eagle Ford is forecast to be about 12,000 boe/d net. By 2016 the company expects production to jump to 100,000 boe/d net.

A "potential opportunity" exists to acquire another 14,000 net acres through "tag-along" rights and other leasing, Marathon noted.

Hilcorp Resources now has six rigs working the leasehold with two dedicated hydraulic fracturing crews. Marathon also has two rigs running in its Eagle Ford leasehold, which it acquired last year from Houston's Denali Oil & Gas (see Shale Daily, Nov. 30, 2010).

Five more drilling rigs are on order and "at least 20 drilling rigs" are expected to be operating in the Eagle Ford within a year of closing the latest transaction, Marathon stated.

Marathon, with global onshore and offshore operations, is no stranger to unconventional oil and gas. In 2006 it acquired 200,000 net acres in the Williston Basin's Bakken Shale (see Daily GPI, April 26, 2006). Today it also operates in the Woodford Cana, Haynesville and Bossier shales, the Denver-Julesburg Basin (Niobrara) of Colorado and in Canadian oilsands (see Daily GPI, April 11; Feb. 3).

"When we look at the opportunity set that presents itself to us today on a global basis, we, and I believe many of our peers, see the resource opportunities in the U.S. as perhaps at the top of the list," said Cazalot.

Within a year of closing the Hilcorp Resources transaction, 35-40 rigs are expected to be operating under Marathon's banner across the United States.

Drilling in the Eagle Ford formation, as well as phased development of in-situ acreage in Canada, "provides a defined growth trajectory to achieve production from the company's unconventional portfolio of approximately 175,000 net boe/d in the 2016-2017 time frame," Marathon stated. Total global oil and gas output in 2010 was 412,000 boe/d.

The Eagle Ford acreage being acquired is crude- and condensate-weighted, but there are about 23,000 net acres in the dry gas window, the company noted.

Current takeaway arrangements include 28,000 b/d of liquids capacity to local refineries. In addition, Marathon would have 100,000 Mcf/d of gas capacity contracted or under way, with contracts structured to capture natural gas liquids.

By the second quarter of 2012 Marathon plans to have more than 600,000 b/d of added liquids capacity, as well as more than 500 MMcf/d of added gas capacity in the Eagle Ford.

The latest acquisition "and other projects under development serve as a catalyst for Marathon to increase our projected upstream production growth to 5-7% on a compound average annual growth rate during the period 2010-2016," said Cazalot. Marathon's previous forecast was 3-5%.

Investors appeared to be concerned about the purchase in part because it comes so close to the announced split of the company. By the end of this month the integrated producer plans to form two independent companies (see Daily GPI, Jan. 14). Marathon Oil Corp. would contain the upstream operations in Houston, while newly formed Marathon Petroleum Corp. would house the refinery businesses in Findlay, OH.

Marathon plans to use cash on hand and cash generated from operations to fund the Eagle Ford transaction.

Once completed the South Texas play would be Marathon's second-largest acreage holding in the United States but it would have the highest number of net drilling locations at 1,850. Marathon has an estimated 375,000 net acres in the Bakken Shale with an estimated 450 drilling locations.

Well costs in the Eagle Ford are averaging $5.5-8.1 million. By comparison, Bakken wells cost on average $7 million; Woodford Cana wells are averaging $7.5 million, and Niobrara wells cost about $4 million.

"In addition to establishing our position in the highest value oil and condensate core area of the Eagle Ford Shale, these assets will deliver immediate production and reserve additions, an active company-operated drilling program [and] significant resource potential, as well as solid economic returns and profitability that are immediately accretive to earnings and operating cash flow, and expected to be self-funding by 2014," Cazalot said.

The transaction is set to close Nov. 1 with an effective date of May 1, 2011.

KKR, which has been investing in the energy sector for more than 20 years, is expected to earn a payoff of about $1.13 billion from its initial $400 million Hilcorp investment a year ago, which gave it a 40% stake in the partnership.

"At the outset, the Hilcorp Resources partnership was designed to capitalize on Hilcorp's expertise and fuel regional development," said KKR Managing Director John Bookout.

KKR's Marc Lipschultz, global head of Energy and Infrastructure and responsible for the firm's utilities and shale investments, said shale had dramatically changed the "nature" of resource availability. The exit from the Eagle Ford, however, was "earlier than we anticipated," he said.

KKR two years ago made a $350 million bet on shale with an investment in East Resources Inc., one of the biggest producers in the Marcellus Shale (see Daily GPI, June 10, 2009). A unit of Royal Dutch Shell plc last year acquired East Resources' principal subsidiaries for $4.7 billion, and KKR's one-year investment returned about $1.5 billion (see Daily GPI, June 1, 2010).

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