EXR's major gas drilling event coming in 2023

Disclosure: S3 Consortium Pty Ltd (the Company) and Associated Entities own 2,795,000 EXR shares, and the Company’s staff own 100,000 EXR shares at the time of publishing this article. The Company has been engaged by EXR to share our commentary on the progress of our Investment in EXR over time.

Yesterday we wrote about how small cap gas explorers’ share prices usually run in the lead up to big drilling events.

Another drilling event happening later this year is Elixir Energy (ASX:EXR)’s onshore gas drilling at its 100% owned project in Queensland.

Today EXR announced a land access agreement has been executed which opens the way for field work to commence.

The drilling is expected to start in late 2023.

This drill event will be the main story and value driver for EXR over the next 9 to 12 months.

It should provide some near term excitement for EXR shareholders while the company progresses its Mongolian coal bed methane and green hydrogen projects.

We have been investing in gas exploration for many years, and are always interested in the big drill events for the year across our Portfolio - they don’t come around often.

EXR’s project already has a “contingent resource estimate” showing 395Bcf of potentially recoverable gas — within its initial 3.3 Tcf unrisked mean prospective resource.

EXR’s project is right next to existing processing and export infrastructure, and acreage held by energy majors like Shell and Santos.

EXR’s appraisal well will have the following aims:

• Prove commercially viable flow rates
• Increase EXR’s already large 395 bcf contingent resource.
• Book the project’s first gas reserves (converting contingent resources into reserves).

The landscape for domestic gas projects has changed a lot in Australia in the past few months.

With the temporary price cap announced last December and the Safeguard Mechanism announced this week - gas supply uncertainty is high within Australia.

With the uncertainty, we think that there will be long term supply issues for natural gas... which presents an opportunity for EXR to take advantage of.

We have been Invested in EXR since 2019.

Today we are going to launch our new EXR Investment Memo covering what we want to see from EXR over the next 12 to 18 months, including:

• Why we are Invested in EXR
• Objectives we want to see EXR achieve
• What are the risks
• What is our Investment plan

We will also provide our commentary and assessment of how EXR performed against each item in our first EXR Investment Memo - you can read this after our new EXR Investment Memo:

Investment Memo #2: Elixir Energy (ASX:EXR) - LIVE

Opened: 29-Mar-2022

Shares Held at Open: 2,795,000

What does EXR do?

Elixir Energy (ASX:EXR) is advancing three projects: a coal bed methane gas project, a green hydrogen project, both in Mongolia, and a Queensland onshore gas project.

What is the macro theme?

Decarbonisation via natural gas energy production and green hydrogen technology.

As the world looks to cut greenhouse gas emissions, natural gas and green hydrogen may prove to be major building blocks towards a net zero economy.

Our Big Bet:

“EXR to achieve a $1BN market cap through successfully advancing one or more of its three projects: its Mongolia gas project, Mongolia green hydrogen project, and/or its Queensland gas project.”

NOTE: our “Big Bet” is what we HOPE the ultimate success scenario looks like for this particular Investment over the long term (3+ years). There is a lot of work to be done, many risks involved - just some of which we list in our EXR Investment Memo. Success will require a significant amount of luck. There is no guarantee that our Big Bet will ever come true.

Why we are Invested in EXR

Strategic project locations

Two of EXR's projects are in Mongolia, on the border of the clean-energy hungry China which is seeking transitions to cleaner, nearby energy sources. This location provides many market options, both local and export.

The third project is in Queensland, on the east coast of Australia, which is in need of gas.

East coast gas exposure in Australia

EXR is gearing up to drill its QLD gas project where it has a 395 Bcf contingent resource (which sits inside an initial 3.3 Tcf unrisked mean prospective resource). The project is right next to existing infrastructure, and acreage held by Shell and Santos. EXR plans to drill the well this year, providing a near term catalyst.

Strong board & management team

A history of success in gas in Queensland, with many years experience operating in Mongolia.

Green-Hydrogen potential

There is a strong case for a green-hydrogen project over EXR’s project area (Nomgon PSC) in Mongolia. A partnership with SB Energy, a subsidiary of Japan’s 12th largest listed company Softbank Group, is exploring the project’s potential.

What do we expect EXR to deliver?

Objective #1: Start drilling at Queensland Gas asset

We want to see EXR drill its maiden appraisal well at its 100% owned Queensland gas project where it already has a 2C (contingent resource) of 395 billion cubic feet (BCF).

Milestones:

✅ Land access Agreements

🔲 Drill permits

🔲 Drill rig secured

🔲 Secure partner / funding for the drilling

🔲 Drilling starts

Objective #2: Progress the Nomgon CBM Project in Mongolia

We want to see EXR progress its Nomgon CBM project in Mongolia.

Milestones:

🔲 Drill four appraisal wells (Big Slope and Yangir)

🔲 Drill five exploration wells

🔲 Prepare for pilots in new area [if drilling successful]

🔲 Proof of concept for commercial development

🔲 Progress with government and review possible private sector offtake

🔲 Consider delivery options for liquefied natural gas (LNG) and compressed natural gas (CNG)

Objective #3: Evaluate the Commercial Viability of a Hydrogen Project

The Term Sheet with SB Energy, signed in February, provides a pathway to a formal joint development agreement and a 50/50 joint venture once a FEED (Front End Engineering and Design) entry decision is made regarding a green hydrogen pilot project.

Milestones:

🔲 FEED (Front End Engineering and Design) entry decision made (mid-2023)

🔲 Sign binding joint development agreement with Japan’s SB Energy (after FEED decision)

What could go wrong?

Exploration risk

There is risk that EXR does not achieve a reasonable flow rate from appraisal drilling at its Daydream-2 appraisal well at its Queensland gas project.

Production risk

PIlot production testing is underway at EXR’s Mongolian coal seam gas project, but it must still be demonstrated to be commercially extractable. CSG is more complex in nature as compared to conventional gas deposits.

Commercial risk

Commercial success of the Mongolian gas project will rely on regional customers buying EXR’s eventual gas product.

Green hydrogen project economics depend on governments putting in place mechanisms to support net zero goals.

Geographic risk

There is country-risk, primarily in Mongolia, where any regional political instability might put the production sharing contract at risk. But is perhaps a risk in Australia too, which is facing talk of gas market price caps.

Funding risk

To drill its Queensland appraisal well, EXR must still secure funding, which it is now pursuing but is not guaranteed.

What is our Investment plan?

We have been holding EXR since 2019, while we free carried and took profit during 2020 and 2021, we added to our position on market at 16.5c in January 2021.

We have been Invested in EXR for over 3 years now - EXR is in our “long term hold” basket, where we retain a Free Carried position to hopefully see our EXR “Big Bet” come true.

This year we may consider Taking Profit by selling up to ~15% of the position IF the EXR share price has a decent run in the lead up to the QLD drilling result (including flow tests).

Our EXR Progress Tracker

We’ve also been releasing “Progress Tracker” slide decks for our Portfolio companies.

Below is the EXR Progress Tracker document.

We will use this internally to keep up to tabs on the company's progress.

Our EXR Investment Memo retro

Earlier in today’s email we launched our new EXR Investment Memo #2.

The ultimate purpose of an Investment Memo is to highlight why we continue to hold a company in our portfolio, what we want to see the company achieve and the key risks to our Investment Thesis.

We also use the memos as benchmarks to assess the company’s performance, as well as a record of our investment plan for each company.

We only update Investment Memos when one of five “memo revision conditions” have been met.

With EXR now planning a well at its Queensland project in 2023 and most of the objectives in our EXR memo #1 Investment Memo completed, it’s the right time to close and assess our EXR Investment Memo #1, and launch our EXR Investment Memo #2.

In EXR’s case the company meets the following condition:

🎓 To learn more about what type of company events trigger an update to our Investment Memo’s check out our educational article here.

EXR has managed to deliver on all three of the objectives we set for the company in our last Investment Memo delivering the following:

• ✅ Flow rates from CBM gas project - EXR drilled two production testing wells and delivered flow rates from its Coal Bed Methane (CBM) gas project in Mongolia.
• ✅ Completed its 2022 exploration program - EXR drilled 17 exploration/appraisal wells across its CBM gas project in Mongolia.
• ✅ De-risked its green hydrogen project - EXR managed to bring on SB Energy (a subsidiary of Japanese conglomerate SoftBank Group) as a project partner for its green hydrogen project in Mongolia.

As part of the EXR Memo #1 review, our view is that EXR has “OVERPERFORMED” on its first Investment Memo, given the flow rates from its gas project, the completed exploration drill program and the partnership with SB Energy at its green hydrogen project.

Below is our EXR Investment Memo #1 assessment:

Memo #1: Elixir Energy (ASX:EXR) - CLOSED

Opened: 10-Mar-2022

Closed: 29-Mar-2023

Shares Held at Open: 3,500,000

Shares Held at Close: 2,795,000

What does EXR do?

Elixir Energy (ASX:EXR) is looking to build out a clean-energy producing hub consisting of Coal Seam Gas and Green Hydrogen in southern Mongolia, bordering China.

What is the macro theme?

Decarbonisation via natural gas energy production and green hydrogen technology. As the world looks to cut greenhouse gas emissions, gas and green hydrogen may prove to be major building blocks towards a net zero economy.

[Memo Assessment]: Sentiment = Very Strong

Prices of natural gas continued to climb in 2022 as supply shortages across Europe and the rest of the world manifest.

Why did we invest in EXR?

Strategic location in Mongolia

EXR's project is on the border of the clean-energy hungry China, seeking transitions to cleaner, nearby energy sources.

[Memo Assessment]: Grade = B

Mongolia remains a strategic geographical location on the Mongolian/Chinese border with excellent infrastructure, mines and planned pipelines, providing access to both Chinese and European markets.

However, being situated between both Russia and China also broadly adds geopolitical risk for investors. Such risks have been heightened this year with Russia’s invasion of Ukraine and increased hostilities between China and the West.

Strong board & management team

A history of success in coal seam gas.

[Memo Assessment]: Grade = A

Added Queensland gas project - a reflection of the management’s industry connections and ability to bring in a new asset.

Brought a project partner with experience in the renewables sector SB Energy. SB Energy already has an operating 50MW wind farm in the Gobi Desert of Mongolia (Tsetsii wind farm).

Green-Hydrogen potential

A research report indicated a strong base for a potential Green-Hydrogen project over EXR’s Nomgon PSC.

[Memo Assessment]: Grade = A

The vast wind and solar resources of the Gobi Desert make this location particularly attractive for green hydrogen production. EXR’s project is estimated to have a combined wind and solar utilisation rate of ~79%. For context, the utilisation rate across WA sits at ~40-60%.

In addition, transportation of hydrogen via land to customers in China is cheaper than shipping hydrogen.

Fully funded exploration

Drilling planned across giant landholding seeking to open up new sub-basins and add to existing prospective gas resource.

[Memo Assessment]: Grade = A

Exploration across EXR’s landholding in Mongolia continued over the past year, including the discovery of a new gassy coal-bearing sub-basin called Big Slope.

In addition to exploration drilling, EXR has split its time and resources on the pilot production program, along with preparations for the first drilling program at the new Queensland asset, and investigations into the Gobi green hydrogen project.

Strong balance sheet

EXR’s $28.4M in cash (at 31/12/2021) can fund its existing business lines for the indefinite future, plus allows for potential acquisitions.

[Memo Assessment]: Grade = A

EXR’s balance sheet was a unique strength over the last ~16 months. With the macro environment getting more challenging and capital raisings becoming harder to close, EXR was in the fortunate position where it didn’t need to raise any capital and had enough cash to continue executing on its projects.

In a year (2022) where most companies deferred major expenditures, EXR didn’t have to pull the handbrake on any of its projects.

What do we expect EXR to deliver?

Objective #1: Pilot production program at the gas project

Design, costings, and permitting leading to a maiden pilot production program this year.

[Memo Assessment]: Grade = A

EXR successfully began its pilot production program, making it the first to flow gas in Mongolia, pioneering gas production in the country.

The two well program (Nomgon-8 and Nomgon-9 pilot wells) resulted in:

• Produced Mongolia’s first ever gas flare
• Production test passed of 200,000 cubic feet per day
• Nomgon-9 has a better production profile to date than that in a large producing Chinese field to the south.

Objective #2: Exploration drilling

In addition to the pilot production program, Elixir will continue its exploration program across the Nomgon PSC, with ~20 wells planned for 2022.

[Memo Assessment]: Grade = B

EXR discovered multiple new sub-basins, drilling ~17 exploration and appraisal wells in 2022.

During the period, EXR expanded its efforts with its Queensland gas project acquisition. This took some of the focus off exploration drilling in Mongolia.

Objective #3: Evaluate the Commercial Viability of a Hydrogen Project

• Updates on MOUs signed with the government, and other stakeholders, exploring the potential for a Green Hydrogen project over the project area.
• Other key 'studies' undertaken including legal, environmental, and commercial evaluation of the project.

[Memo Assessment]: Grade = A

Partnered with SB Energy (SBE), a subsidiary of Japan’s Softbank Group.

In February 2023, EXR executed a term sheet with SBE, building on its earlier MOU signed last June to progress investigations into the project's feasibility.

The Term Sheet provides a pathway to a formal joint development agreement and a 50/50 joint venture once a FEED (Front End Engineering and Design) entry decision is made regarding a green hydrogen pilot project.

What could go wrong?

Production risk

EXR is drilling for “Coal Seam Gas”. There is a risk that while there are gas shows, they may not be commercially extractable. CSG gas is more complex in nature as compared to conventional gas deposits.

[Memo Assessment]: Risk = Decreased

Successful pilot production testing: the two well program (Nomgon-8 & 9 wells) reached a milestone - flowing a combined 200,000 standard cubic feet per day (scfpd) of gas. It has also reported continued stable and low water rates of 150 barrels per day.

Commercial risk

Green hydrogen project economics depend on governments putting in place mechanisms to support net zero goals.

[Memo Assessment]: Risk = Decreased

Achieving net zero continues to be a goal for governments around the world.

EXR’s partnership with subsidiary of Japan’s Softbank Group, SB Energy, will help project development and attract project financers. SBE is now investigating various potential sources of Japanese Government fiscal support.

Pre Feasibility studies (PFS) currently being refined for a pilot project.

Geographic risk

There is country-risk. Any political instability might put the production sharing contract at risk.

[Memo Assessment]: Risk = Unchanged

Whilst broader geopolitical risks may put off some investors looking at Mongolia, EXR continues to have a strong relationship with the Mongolian government.

This relationship is evidenced by the granting of an MoU for its Gobi H2 project.

EXR and SoftBank Energy continue to brief the central government’s Ministry of Energy under that MOU.

Existing CBM operations in the South Gobi region provide Gobi H2 with a platform of multiple level Government engagement and support provided to local communities.

We also note that EXR diversified its project portfolio with the acquisition of its QLD gas project.

What is our investment plan?

We have been holding EXR since 2019, while we free carried and took profit during 2020 and 2021, we recently added to our position on market at 16.5c.

Our plan with EXR is to hold to see the company achieve our 2022 objectives, but will look to de-risk our position by selling 20% if the share price significantly re-rates on achieving our 2022 objectives OR based on the strong macro theme of global gas shortages and green energy.

[Memo Assessment]: Grade = B

We last increased our position in EXR in January 2021 at 16.5c.

Over the past 12 months the EXR share price has drifted sideways and then down in line with the broader weakness across the small cap market.

In line with our Investment Plan, we sold ~20% of the Shares Held at the start of our EXR Investment Memo - de-risking our position.

We still think that EXR’s fundamentals are strong and will retain the majority of our position during this current down market - see our updated Investment Strategy in new EXR Investment Memo #2 for more details.

You can view our past and current EXR Investment Memos at any time on our EXR company page here.