McMoRan Bets On Ultra-Deep Drilling Success

HOUSTON (Dow Jones), Apr. 28, 2010

McMoRan Exploration Co. discouraged investors last week with disappointing production guidance from its CEO, as it pins its hopes on the success of its high-risk Davy Jones ultradeep-shelf exploration in the Gulf of Mexico.

After McMoRan Chief Executive James Moffett at an earnings call announced a delay in the planned production test at the Davy Jones prospect, investors dumped the shares and the stock plunged 14%. The flow test was expected to start by the end of this year, but was reset to begin in 12 to 18 months.

The sell-off was a reversal of the aggressive buying in the stock of the New Orleans-based independent oil and gas firm in January, when its price jumped more than 50% after news of the Davy Jones discovery. The find was one of the largest in decades dug from shallow waters in the Gulf of Mexico, an area that saw its heyday of natural-gas discoveries in the 1980s but is now deemed unattractive due to its relatively mature fields.

The well, located about 10 miles off the Louisiana coast, was drilled from a shallow water depth of 20 feet that bore down through a shelf more than 28,000 feet below sea level. The company had said resources at the prospect indicate huge reserves. McMoRan boasts another large Gulf discovery called Blackbeard West it made in 2008, two years after Exxon Mobil Corp. abandoned an exploration project near the site after determining that it wasn't worth drilling.

With its efforts focused on finding commercially viable hydrocarbon sources from both ultradeep-shelf discoveries, McMoRan could luck out should it strike ample resources of natural gas or oil in the area between them. Such an outcome would be a boon for the company and in turn revive the reputation of the Gulf shelf as a major exploration frontier.

"If they can show that everything between those two discoveries has a fair amount of natural gas, you are going to see their stock climb quite dramatically," said Neal Dingmann, equity analyst at Wunderlich Securities, who has a "buy" rating on McMoRan. Dingmann said that those who bought McMoRan shares on the prospects of its ultradeep projects have good reason to buy or hold the stock.

McMoRan faces numerous challenges in ultradeep-shelf exploration. It needs specialized equipment to handle challenging conditions encountered at depths from where no other company has ever produced oil and gas. The company could utilize technology employed in ultradeep-water exploration, but it's still unknown if the equipment can resist the high pressures and temperature conditions in ultradeep-shelf drilling.

The company has said that bringing the area into production will require several wells that could each cost $150 million to $175 million, a major investment at a time when natural-gas prices are depressed by rising U.S. onshore production and sluggish demand. McMoRan, however, is confident it could keep its costs down because the Davy Jones well is dug from shallow waters and located near existing infrastructure.

Tom Petrie, vice chairman of Bank of America Merrill Lynch, said the prospect could be very prolific and could produce at a fraction of the cost of deep-water wells.

McMoRan's gamble hasn't gone unnoticed. At a sale of federal drilling leases in the Gulf last month, interest in shallow-water leases around the Davy Jones prospect picked up and drew as nearly much appeal as ultradeep-water areas.

"With its Davy Jones discovery, McMoran has definitely renewed interest in the shelf," said Zoe Sutherland, an analyst at consultancy Wood Mackenzie. "They are really pushing the boundaries of technology in a completely new territory."

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