How Seven Generations Energy keeps growing in an era of low gas prices

With some of the lowest-cost gas operations in North America, the company has a bold new plan to sell its product straight to industrial clients

 
Seven Generations Energy’s Kakwa River Project in Northwest Alberta
Seven Generations Energy’s Kakwa River Project in Northwest Alberta. (Seven Generations Energy)

When Pat Carlson founded Seven Generations Energy in 2008, the company’s direction was undecided. The firm had land leases across the West: in the Horn River Basin in northeastern British Columbia, the Kakwa River south of Grande Prairie, Alta., and the Bakken deposit beneath North Dakota. Carlson thought the American play was the most promising; that’s not the way things worked out. Initial testing of the Kakwa River properties showed multiple large-scale zones of gas. “I was almost numb. It was such a game-changer—more than any of us could have imagined,” says geologist Glen Nevokshonoff. Carlson says it was difficult to tell without further testing whether the deposit would yield commercial rates of production. Nonetheless, the initial results prompted a change in strategy. Seven Generations sold the other two properties to invest in more Kakwa land.

By 2010, Carlson, a chemical engineer, knew he had something special with Kakwa River. It looked like one of the lowest-cost gas and liquid sites in North America. What he couldn’t foresee was just how far gas prices would plummet, from a high of US$14 per million BTUs when Seven Generations started up to below $3 by mid-2016. Gary Leach, president of the Explorers and Producers Association of Canada, says the price collapse forced Canadian firms to pivot into natural gas liquids such as propane and butane, whose prices remained more buoyant. “The entire business model for natural gas producers…was in trouble,” says Leach. Not all small producers survived the transition. But Seven Generations, which went public in the midst of the price plunge in 2014, is built upon a low-cost business model focused on continually seeking out better technologies and practices. That strategy allowed it to compete in the oversupplied U.S. market. In marked contrast to the rest of the industry, the company’s stock has nearly doubled since its 2014 debut. But there’s more: A radical new strategy is in the works, aimed at selling directly to industrial customers.

“Good rock and good management” is a tried-and-true recipe for oilpatch success, and Seven Generations has superlative rock. Drilling began six years ago, and by 2015, production averaged just over 60,000 barrels of oil equivalent per day (BOE/D). Reserves soared to 859 million BOE/D over that period. But those numbers were dwarfed this year, when production doubled. The hike in output was partly driven by the acquisition in the nearby Montney Nest reservoir, which added 30,000 BOE/D of production. The deal cost $1.9 billion—financed by a combination of cash, shares and the assumption of some of seller Paramount Resources Ltd.’s debt—and further enhanced Seven Generations’ capacity as a low-cost supplier. The merging of assets and land would “open the door to new operational and investment synergies in our Kakwa River project,” said Carlson at the time.

“Operational synergies” is oilfield code for boosting productivity and squeezing costs using new technologies—or using existing technologies better. “Innovation’s a big part of our whole corporate culture and part of what helps differentiate us,” says Carlson, pointing out that oil and gas companies can be risk-averse and sometimes late to exploit opportunities presented by technical advances. Seven Generations plans to avoid that pitfall. It has embraced improvements like “super pads”—bigger clearings that accommodate more and longer horizontal wells with a smaller environmental footprint. Carlson says the only part of a well that matters is the horizontal leg, which extends from the vertical wellbore toward the actual gas. The company has reduced the cost of drilling from $4,000 to $1,000 per lateral metre. Analyst Patrick O’Rourke of AltaCorp Capital says the Seven Generations team is “one of the absolute best at taking best practices from around North America and then applying them to their play. They’ve had a very scientific, systematic approach to that.”

Some of Carlson’s most astute management moves aren’t obvious to the casual observer, like his decision to work hard at gaining approval from the four First Nations affected by company operations. David MacPhee is the CEO of the Aseniwuche Winewak Nation’s development corporation. He says it was early days for Seven Generations when Carlson introduced himself, explained that the company wanted to build relationships with the community—and then followed through on all his promises. Elders were taken on well-site tours, which is important, because the company’s super pads reduce the environmental disruption compared with conventional sites. “They’ve always been a very transparent company,” MacPhee says. “It’s a very comfortable relationship. I would say that our nation has granted them social licence.” Carlson believes the same principles apply to other company stakeholders: “We have to look after our stakeholders—people or groups who can seriously impact our business—and meet all their reasonable concerns. That is our duty.”

Seven Generations might have top-notch management, but it isn’t the only producer pumping cheap gas. American shale drillers using the same technology have flooded their domestic market in recent years, pushing out higher-cost Canadian supply. Carlson and his team have shaved costs wherever possible, which is why the company recently built its Cutbank processing plant in northwestern Alberta. The facility doubled its field-processing capacity. It was brought on stream a week early, under budget and able to handle enough gas in a day to heat over 2,600 Canadian homes for a year. The Cutbank facility helped Seven Generations “ramp up liquids-rich natural gas sales into the U.S. Midwest market,” according to president and COO Marty Proctor. Its products are shipped to Chicago via the Alliance pipeline system, which transports gas from the Western Canadian Sedimentary Basin through the Bakken into the Midwest. Final processing takes place at Aux Sable’s Channahon, Ill., fraction plant. The amount shipped along the route will double by 2018. The company has also committed to a smaller amount of production on TransCanada’s Nova Gas pipeline, starting in 2018. “We pay the toll all the way to Chicago, so our gas is actually marketed there, not in Alberta,” said Carlson. “We haven’t seen Alberta prices since that contract came into place [in 2015].” Chicago prices were about US$1 more than the going rate back home, a significant premium for a low-cost supplier.

Rapid growth in a relatively short period has kept Seven Generations from being cash-flow positive, but probably not for long, says O’Rourke. Annual revenue exploded from $25 million in 2011 to $414 million last year. The $475-million top line for the first two quarters of this year bode well for a further jump in 2016. O’Rourke expects cash flow to exceed capital requirements on a quarterly basis in the near future: “A lot of front-end spending is now in the rear-view mirror, and they can spend money at the drill bit instead of on gas plants and gathering systems.” Investors have warmed to the company, with private rounds attracting stalwarts like ARC Financial (15%), KERN Partners (10%) and the Canada Pension Plan (19%). The initial public offering in October 2014 proved bumpy—the share price was reduced because the market plunged only a few weeks prior—yet was still oversubscribed and raised $932 million. After languishing in 2015, the stock doubled this summer, peaking at just over $30. “I think the market is definitely recognizing what we’ve done to date, and we want to keep that up,” says Carlson.

Can Seven Generations maintain this scorching pace? If the company has a market challenge, it will come from the huge Appalachian gas fields—Marcellus and Utica—which are much closer to Midwest customers, meaning lower transport costs. A future threat may be the Mancos Shale in Colorado, whose natural gas reserves were recently upgraded by the U.S. Geological Survey to 66 trillion cubic feet. American producers may face headwinds from U.S. Environmental Protection Agency regulations and drilling restrictions on federal lands, but they have an abundance of gas and the know-how to produce it at a low cost.

Carlson has a reputation for being a big-picture thinker, and lately he has been thinking a lot about a different direction: squeezing more value out of his low-cost resource beyond 2020 through market expansion. That means bypassing the midstream sector and partnering directly with other players in the “integrated energy chain,” as he puts it, such as electrical power generation, petrochemical manufacturing, and export initiatives involving liquefied natural gas and liquefied petroleum gas. Carlson hopes to leverage his low-cost gas into partnerships with downstream end-users without having to be a big investor: “If we’re going to recover a large portion of the value generated from our natural gas production, we’re going to have to take our value further down the supply chain.”

Will the new strategy work? O’Rourke says the approach is being tried by some American producers, but it’s too early to tell whether it will be a success. But, he adds, “that [the idea] of creating markets will be a benchmark to watch in the Canadian space.” Indeed, investors will be watching closely.


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