Initiating Coverage – European GasEuropean Gas (EPG.AX - A$0.60)...

Initiating Coverage – European Gas

European Gas (EPG.AX - A$0.60) Buy Target: A$1.10

Coal Seam Gas exposure to European gas prices



European Gas (ASX code: EPG) produces gas from Coal Mine Methane (CMM) at the Gazonor site in northern France and is seeking to grow through a number of significant project options. The industry is in its infancy in Europe and EPG has some very promising development assets. The European gas market is almost entirely reliant on imports from Russia, Norway and LNG, with gas prices moving up strongly in recent years, currently trading about 5x higher than in Eastern Australia. The current share price only reflects a conservative valuation of the Gazonor assets, leaving all the development potential as a free option. Bell Potter initiates research coverage on EPG with a Buy recommendation.



EPG’s key attractions:



EPG is an exciting exposure to gas markets in Europe, where demand is huge, and prices much higher than in Australia. Growing fears of dependence on Russian gas will encourage domestic production in countries like France, where 99% of gas is imported. The switch from coal to gas for power generation will accelerate when Phase III of the EU CO2 reductions targets commence in 2013.
· EPG has capitalised on its “first mover advantage” into Coal Bed Methane (CBM) in Europe, having acquired a cash flow asset and a number of attractive exploration/appraisal projects around France and Italy, plus a joint venture in the Benelux countries.

· The formerly State-owned Gazonor operation (acquired late 2007) will not only be able to cut costs, but can be expanded through further CMM drainage, addition of power generation units, and development of the surrounding CBM potential. The license area covers France’s major historical coal mining district, where 2.5 billion tonnes of coal was extracted, and 22 billion tonnes remain above 1,500m depth. The Gas In Place (GIP) is in excess of 4Tcf. Certified reserves from the closed mines are 357Bcf, but the ultimate recovery is likely to be much larger.

· Among the exploration projects, the Lorraine project is currently testing its first pilot well at Folschviller-1, which could indicate the potential for a very large project, if successful. GIP has been estimated between 1 and 4 Tcf. The upcoming flow test will give some indication of potential recovery rates.

· Prospects in EPG’s license areas are generally older coals from the Carboniferous era compared to Australia’s Jurassic/Permian coals. These coals generally have lower permeability and require enhanced extraction methods, such as horizontal well completions and fracture stimulation. Although this adds to the cost of extraction, high gas prices still allows scope for good margins. However, if flow rates disappoint, commercial prospects will diminish and this represents a key risk.



Our valuation is $1.10 with good upside from drilling and testing

Our $1.10 valuation of EPG includes $0.61 for Gazonor and $0.49 for the upside potential, which could be significantly more valuable if just one of the exploration projects turn out to be commercial.



Bell Potter initiate’s coverage with a Buy recommendation

We consider EPG a very interesting and attractive opportunity to invest in a Coal Seam Gas company, operating in a fantastic gas market. With an established cash flow business, and many opportunities to develop a large scale operation, EPG looks like much better value than the Australian peer group, and Bell Potter initiates with a Buy recommendation.


DYOR!