YPF's New Deal With Chevron: Time To Buy?

Chevron recently agreed to spend $1.6 billion along with YPF to continue the development of Argentina's exciting Vaca Muerta shale oil and gas formation.

This deal assures more investment capital and reaffirms the continuity of Chevron's production plans in Argentina. In June last year, both companies signed a pilot project, in which Chevron agreed to invest $1.24 billion within one year, with the option of stepping out once this period was over or the amount was put to use.

According to YPF officials, the pilot project was completed in March, and it involved the development of 20 square kilometers and 161 perforations. The success in the first project let Chevron to agree on sharing a new $1.6 billion investment. Although the continuity of the pilot project was never put into question, the fact that this new agreement has been signed gives investors higher confidence about YPF's potential.

The money will be invested in drilling 170 additional wells this year in Vaca Muerta's 96,000-acre land. The deal also includes a commitment from Chevron to spend $140 million in exploring 49,400 acres in the Narambuena region of the Vaca Muerta formation.

Track record
Since the company's nationalization in mid April 2012, YPF has struggled to strike deals and raise capital internationally. This owed partly to the company's open dispute with its former majority owner, Spanish oil company Repsol. The conflict ended with Repsol receiving a $5 billion settlement for the Argentinian government's expropriation of YPF.

Nevertheless, the first international investment agreement for YPF came while disputes with Repsol were ongoing and no solution was in sight. It was a $188 million agreement with Dow Chemical signed in September 2013 to develop an unconventional gas pilot project in the El Orejano area, located within the same formation. Though relatively small, the deal was a big step for YPF and showed that the assets behind Vaca Muerta are tremendous.

The plans
Vaca Muerta is a huge formation of almost 19,000 square miles, of which YPF holds a net participation of 7,500 square miles. Thanks to this asset, Argentina ranks second in the world for shale gas reserves and fourth for potential shale oil reserves. Production in the area is ongoing, and YPF has 19 drilling teams operating there, extracting 20,000 barrels of oil on a daily basis.

However, YPF's objectives are much bigger. The second phase of exploration calls for drilling 1,500 wells across 150 square miles. The current production target is 50,000 barrels of oil and 3 million cubic meters of gas per day -- not easy to accomplish.

This is where Chevron's key contribution comes in, as its technical expertise and investment will help Argentina achieve its goal of energy self-sufficiency. Let's not forget that after many years of being self-sufficient, Argentina has recorded an energy deficit; energy consultant Daniel Montamat says it will reach $9 billion this year. But more importantly, Chevron “helped YPF identify the best spots to drill -- no small contribution, as the area is vast, and exploration costs are high. In fact, thanks to these agreements, YPF managed to reduce the cost of vertical perforations from $10.5 million to roughly $7.6 million in two years. This is impressive, considering the number of drillings that will be needed.

Final foolish thoughts
This new deal with Chevron is the biggest agreement and first significant investment since YPF's nationalization. It is a reaffirmation of confidence and a strong base from which the company can build future agreements to continue developing Vaca Muerta.

And the timing is perfect, as Argentina requires new capital injections. This year alone, central bank reserves have fallen 12% to around $27 billion, and there is strong pressure on the peso. Plus the country recently suffered a credit-rating downgrade from Moody's, pushing its sovereign debt down to junk status. Although YPF recently managed to place bonds in the international market, the company can't raise the funds that Vaca Muerta requires.

Meanwhile, Chevron's overall results in Latin America have been weak, mainly because of declining production in Venezuela and a terrible business climate in the country. In addition, the company is facing a $9.5 billion legal fight with Ecuador over environmental damage caused by Texaco (which was acquired by Chevron in 2001) to the Amazon region in the country. Thus consistent growth in production in Argentina will improve the company's regional position.

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The article YPF's New Deal With Chevron: Time To Buy? originally appeared on Fool.com.

Louie Grint has no position in any stocks mentioned. The Motley Fool recommends Chevron. 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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