With exploration farm-outs of higher risk wells being more common, Westwood urges buyers to beware

Westwood Global Energy, an energy market research and consultancy firm, has advised buyers to be mindful of exploration farm-outs, after analysing the results of 419 high-impact exploration wells drilled outside the U.S. and Canada, which were completed between 2017 and the end of October 2022.

In a recent farm-out drilling performance study, Westwood found out that high-impact (HI) exploration wells drilled since 2017 outside the U.S.A. and Canada, where equity was farmed out by one or more of the participants before drilling, had approximately half the commercial success rate and median discovery size than those wells that were not farmed-out.

According to Christine Shearman, Senior Analyst, 26 per cent of the 419 high-impact exploration wells had been subject to a farm-out deal and a proportion of the cost of the well was covered by the company farming-in. Westwood’s analysis shows that companies usually know which are their best prospects and have reduced their exposure to exploration failure by selling down their equity in lower-ranked prospects before drilling, whilst those who choose to farm in have exposed themselves to lower success rates and smaller discoveries.

Furthermore, only one in every three high-impact exploration wells drilled between 2017 and the end of October 2022 resulted in a potential commercial discovery. As the cost of failure can be high, explorers will try to manage their exposure according to their appetite for risk, thus, exploration companies frequently invite other companies to join them in the venture in order to share the cost and the risk, by farming-out equity in planned wells, based on Westwood’s statement.

The energy market research and consultancy player assigns a pre-drill chance of commercial success to exploration wells based on the historical success rates of analogue prospects. Shearman points out that the average pre-drill estimated chance of commercial success for wells that were farmed out was 19 per cent compared to 28 per cent for wells which were not farmed out. In line with this, Westwood underlines that companies tend to sell equity in higher risk wells.

Moreover, the actual commercial success rate of high-impact exploration wells that had been farmed out and were completed between 2017 and the end of October 2022 was 17 per cent, compared to a commercial success rate of 37 per cent for those wells that had not been farmed out, says Shearman. As the success rate of farm-out wells was slightly less than expected, whilst wells that were not farmed-out had a significantly higher success rate than historical analogues, Westwood underscores that companies tended not to farm out prospects that they knew to be lower risk.

On the other hand, Westwood highlights that the difference in success rates should not be taken as an argument against ever farming in, as a decision to farm into an exploration opportunity can pay off handsomely for some companies. In lieu of this, 19 commercial discoveries were made from the 111 farmed-out wells between 2017 and the end of October 2022, discovering an estimated total of 10 billion boe of oil and gas, compared to an estimated 60 billion boe of oil and gas resources discoveries by non-farmed-out HI wells.

Shearman outlines that the average size of discoveries made in wells that had been farmed out is very similar to that of those that had not, at about 500 mmboe, but this is biased by a few giant discoveries such as Venus in Namibia (3 bnboe), Yakaar in Senegal (2.5 bnboe) and Ken Bau in Vietnam (1.25 bnboe). In contrast, the median size of discoveries made in farmed-out wells is just 127 mmboe, compared to 246 mmboe in discoveries that had not been farmed-out, thus, Westwood infers that farm-out discoveries are generally smaller.

Westwood emphasises that farming-in to drilling opportunities can bring great rewards, as illustrated by Hess and CNOOC’s successful farm-in to the Stabroek license in Guyana in 2014, accessing 55 per cent of nearly 11 billion barrels. Nonetheless, Shearman concludes that statistics show companies choosing to farm-in should be mindful of the concept of “caveat emptor” or “let the buyer beware.”