McMoRan's Deepwater Gulf Expedition Looks Very Uncertain

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McMoRan Exploration (NYS: MMR) has its sights set firmly on the Gulf of Mexico. When others are actually trying to move operations away from this region following the disastrous Macondo blowout last year, McMoRan is continuing the search for elusive oil some 25,000 feet below the sea bed.

So deep is its conviction that McMoRan acquired shallow water assets on the Gulf's shelf from Plains Exploration & Production (NYS: PXP) for almost $1 billion!

McMoRan is not alone in its quest to find natural gas from the deeper (and older) rock formations under the Gulf. But the real question is: Why?

The advantage
The company, along with its public partner Energy XXI (NAS: EXXI) , has been stubbornly maintaining that these reservoirs are capable of altering prevailing market conditions for natural gas. A successful drilling campaign in this region could drastically bring down the cost of production. Given the currently lousy market conditions for natural gas, which now trades at $4.36/MCF, successful production could actually lower prices significantly below that value.

Currently, Ultra Petroleum (NYS: UPL) and Southwestern Energy (NYS: SWN) have mastered the art of producing natural gas on the cheap -- doing so at $2.61/MCFE and $3.85/MCFE, respectively. However, successful production from the Davy Jones wells No. 1 and No. 2 could see an even bigger drop in costs.

Not a smooth ride
Thanks to last year's Deepwater Horizon disaster, government regulations have become stricter. Higher costs, more ardous compliance, and greater attention to safety will undoubtedly be a part of new efforts in the region. This will not rest lightly on management's shoulders.

From an operational standpoint, the Davy Jones well No. 1 is expected to undergo a flow test at the end of this year. Well No. 2 is expected to undergo the flow test in the second quarter of 2012. As a potential investor, I recognize that that's a long way off.

Things do not look too rosy at the moment from a financial standpoint, though. Another loss in the second quarter is only going to make investors jittery. Capital expenditures for 2011 are expected to be in the range of $300 million to $500 million. This makes each well that's being drilled cost upwards of $250 million. Hitting a dry hole is definitely not an option here.

Foolish bottom line
Overall, management seems to be going ahead with a lot of conviction. However, it is too early and risky to come up with a specific conclusion on the growth prospects of this company.

Think otherwise? Leave your comments below.

At the time this article was published Fool contributor Isac Simon does not own shares of any of the stocks mentioned in this article.The Motley Fool owns shares of Ultra Petroleum. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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