LAST week, Understanding Energy discussed frontier exploration and the role it plays in the global petroleum industry, serving as the tip of the spear for risky or unproven areas. The companies involved in frontier exploration vary greatly in size and business model. Some major integrated energy companies – like Shell, ExxonMobil and BP – conduct frontier exploration, but there are also many smaller, risk-oriented exploration companies active in these areas. This week, we take a closer look at the strategy of these smaller companies.
Small exploration companies don’t have access to a lot of money, so they typically operate on narrow margins and have limited overhead, meaning they spend little on offices, equipment or personnel. They keep a small staff and are usually built on the experience of a few individuals with years of industry knowledge and experience. These individuals are usually the driving force behind the creation of the company.

Their business strategy is to leverage the knowledge and professional networks of these industry veterans to identify opportunities. The leaders typically come from larger, more established oil and gas companies and often bring a wealth of information from their prior jobs. In fact, it is not uncommon for that knowledge to be centred on specific regions or potential reserves.

These small companies are not built to compete directly with large operators when it comes to sustained development or production activities, and they do not have the resources necessary to conduct such operations. Instead, they focus on identifying high-quality exploration opportunities which, for one reason or another, have been ignored by larger companies.

This means that the exploration conducted by these smaller firms is often higher risk and in more frontier areas because larger companies tend to buy up the rights to lower risk exploration targets. The high-risk regions are often overlooked or ignored by larger companies because of their frontier status, potential operational complications, or perceived political risks. In short, anything which pushes the risk profile beyond what a large company is comfortable with.

Small exploration companies try to obtain exploration rights to explore certain areas and work to add value to the potential asset. This often takes the form of initial exploration activities, like conducting seismic surveys, to identify exploration drilling prospects.

By taking on risky exploration costs, they go where other companies are unwilling to go. If their initial exploration activities are successful, they have added significant value to a potential production area. The hope is that this process draws the interest of larger investors.

Just as quickly as they get in, small exploration companies often try to quickly exit part or all of their investment. They often cannot produce oil or gas profitably themselves, which means they need to bring other companies in.

This usually takes the form of a “farm-in” agreement, in which the current owner of the exploration leases enters into an agreement with another company to hand over some of the ownership of that lease. The new company will be expected to add value by providing cash, technology and expertise to the operations, helping to speed up the oil and gas field development and assist in production. In this way, small exploration companies play a unique but important role in the global energy industry. By de-risking and building the profile of assets, they help connect larger production companies with opportunities that they might have missed otherwise.