George Yates: “…The payout is incredible…We project something like a one-year payout.”

The cost of converting a Permian Basin drilling program from vertical wells to horizontals is steep, particularly for a private operator, says George Yates, president of New Mexico-based Heyco Energy Group Inc. and a third-generation Permian driller. “It’s an oft-asked question,” he said in a DUG Permian 2014 post-presentation Q&A session in Fort Worth in May.

“Let me, first, say the industry has changed tremendously. This transition from a vertical program to a horizontal program is not an easy transition for every operator. It is technically challenging. It takes resources—the ability to execute organizationally. Operators have to make those commitments.

“And, it takes capital. In our case, we are going forward with our drilling program with internally available capital…At some point, we will consider other kinds of capital because the budget is pretty large. The good thing about that is that, today, there is a lot of capital available and a lot of choices of structure. We’re postponing that decision to help us make the right decision.”

Yates has seven horizontal wells in the company’s current drilling program—all targeting Bone Spring in the Delaware Basin. “I cannot tell you a budget number, but it is much more expensive than we are used to as a, primarily, vertical operator…

“(But) the payout is incredible. For our seven wells (to date), we project something like a one-year payout.”

Privately held Endeavor Energy Resources LP has a $550-million budget for 2014 for 107 wells among which 13 will be horizontal. “We’re still in the vertical mode, primarily,” Joel Castello, Endeavor reserves and acquisitions manager, said. “Our owner (35-year basin operator Autry Stephens) likes to use his own drilling company, Big Dog Drilling. We have only two rigs that are outfitted for horizontal drilling. We have committed to buy a walking rig and to upgrade one of our other rigs to drill horizontal wells.”

Both of its horizontal-capable rigs are drilling for it in the Delaware Basin where Endeavor has expiring leasehold, targeting Bone Spring and Wolfcamp in Reeves and Loving counties, Texas. Meanwhile, its verticals are traditional, stacked-pay Wolfberry wells.

Endeavor also has a newly minted agreement with ExxonMobil Corp. unit XTO Energy Inc. in which XTO is to gain operating equity in 34,000 gross Endeavor acres in the Midland Basin in Midland and Upton counties. In the deal, Endeavor will continue to operate its HBPed, shallow production; XTO will drill and operate horizontal wells in the Wolfcamp.

Also in the Delaware Basin, private operator Brigham Resources LP has three rigs drilling for it in Reeves and Pecos counties, Texas, with plans for roughly 25 gross wells this year. “So we have a lot on our plate,” said Gene Shepherd, chief executive officer who co-formed the company with Bud Brigham, both formerly chiefs of publicly held, Bakken-focused Brigham Exploration Co., which was sold in 2011 to Statoil ASA.

Shepherd said of access to capital these days, “Capital is out there and it is amazing, as a private company, the access to high-yield debt markets. When we (at Brigham Exploration) went into the downturn in 2008, if 100% of our debt capitalization had been banks, it would have been tough. But we had done a $125-million, high-yield offering. It’s a bullet maturity and there are no maintenance covenants, so it’s a great source of capital.

“There is a lot of availability, regardless. You don’t have to be public to have access—private-equity sponsors, mezzanine guys, the non-traditional debt markets, the term-loan markets. You have low interest rates and $100 commodity pricing.

“It’s as favorable as you can get.”

Castello noted that commercial lenders are pretty strict and redeterminations are every six months. “We found that the public, high-yield, debt market is pretty cheap money. Our last bond issue amounted to about 6% (interest). So, we’re generating a 50% internal rate of return on very low-geological-risk drilling and you can get money at 6%? That’s a cash machine.”

–Nissa Darbonne, Author, The American Shales; Editor-at-Large, Oil and Gas Investor, OilandGasInvestor.com, Oil and Gas Investor This Week, A&D Watch, A-Dcenter.com, UGcenter.com. Contact Nissa at ndarbonne@hartenergy.com.