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Denver - Energy Annual Meeting December 13, 2001.

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Presentation on theme: "Denver - Energy Annual Meeting December 13, 2001."— Presentation transcript:

1 Denver - Energy Annual Meeting December 13, 2001

2 Introduction of Wells Fargo The Mezzanine Market The Wells Fargo Philosophy on Mezzanine Financing Case Studies Acquisition and Development Capital

3 Wells Fargo was founded in 1852 4th largest market cap of all U.S. bank holding companies 5th largest bank holding company in U.S. ($428 billion of assets) One of the most recognized companies in the financial services industry The only Aaa rated bank in the United States Wells Fargo Energy Group Energy Banking – traditional commercial banking services Energy Capital – mezzanine, sub debt, and equity investments Energy Advisors – A&D advisory Wells Fargo

4 Energy Banking Headquartered in Houston, with offices in Dallas and Denver 63 professionals on staff ; 7 engineers in an affiliated engineering firm Loan portfolio exceeds $4 billion in commitments Target middle-market loans $1 to $50 million Portfolio composition: E&P 40%; 30% oilfield service; 10% refining & petrochemical; 20% pipelines, gas gathering, and marketing Offer traditional commercial banking services: treasury management; purchasing cards; retirement plans; currency, interest rate, and commodity risk management; and investment management

5 Energy Advisors Headquartered in Houston Principals: Tom Hedrick and Kevin Neeley Combined 28 years, 34 deals, $9 BN oil and gas transaction experience Domestic and international asset divestitures and corporate sales Advisory service tailored to middle market clients Principals involved in every transaction One-Stop solution for acquisition and divestment needs

6 Energy Capital 12 professionals on staff, headquartered in Houston, with an office in Denver Over $420MM committed to 45 new transactions since 1996 Target structured loans $5 to $30 million with higher risk/return profiles Funds provided for development drilling; highly leveraged acquisitions; bridge facilities; subordinated debt; and production payments Make selective equity investments in sponsored funds, and private companies Advise Foothill Capital on distressed investments

7 Definition of Mezzanine Debt Mezzanine (mez’e nen) n. [from Latin, medianus middle, median] 1. An intermediate story, usually not of full width, between two main floors, especially the ground floor and the one above it. Energy finance translation: a middle layer of capital, with equity beneath and usually senior debt above; not meant to be a permanent or primary source of capital. Mezzanine debt is primarily provided to private companies who require more capital than commercial banks can provide and who cannot access the public markets. Mezzanine debt is a good solution for those companies who exceed commercial bank parameters but still have cash flow to amortize additional debt.

8 50+ 5 10 15 20 25 30 35 40 45 PDPPDNPPUDProbablePossible ---------- Development/Exploitation ------------ (Engineering Risk) ---------- Exploration ----------- (Geologic/Geophysical Risk) Oil and Gas Industry Risk Spectrum Bank Loan 0 Target Rate of Return, % Reserve Risk Development Loans and Mezzanine Debt Project Equity Equity-Linked Securities Wildcat Drilling

9 Mezzanine Debt Market Domestic E&P only, including Term Bs and Second Liens but not VPPs Source: Wells Fargo Energy Capital

10 Mezzanine & High Yield Debt Markets Domestic E&P Only Source: John S. Herold, Inc. & Wells Fargo Energy Capital

11 Mezzanine Debt Market Primary Drivers Conservative commercial bank market High thresholds for public debt/equity Expensive or scarce private equity Strong backwardation in the commodity prices Extensive development program requirement (high PUD component) Advantages of mezzanine debt versus Bank DebtPrivate Equity limited or non-recourseless control higher advance rateless expensive more flexible use of proceedseasier to amend or increase accelerates reserve development

12 Wells Fargo’s Mezzanine Philosophy Wells Fargo Energy Capital was formed to serve our middle market bank clients with mezzanine finance or A&D advice The goal is to create a relationship, not complete a transaction Mezzanine loans should create value Funds should be used to acquire or develop reserves Mezzanine debt should always have some equity underneath A successful development project is defined as one that meets bank refinancing parameters High risk capital demands a higher return A capital structure that blends mezzanine and senior bank debt is cheaper and more flexible than private equity

13 Typical Mezzanine Structure and Pricing Project Financing Fund development of proven reserves Borrowing base = 65% of total proved using NYMEX pricing (75% if more than 50% PDP) Maturity set soon after project completion Secured with first lien Rate: 10% - 12% ORRI: < 5% NPI: 15% - 75% Warrants: if appropriate Cash Sweep: 75% - 95% Runs deposited in a cash collateral account Commodity hedging required Subordinated Debt Accelerate development activity or refinance debt Borrowing base: senior + sub < PW 10% Maturity set soon after senior maturity Secured with second lien Rate: 6% - 15% ORRI: not usually NPI: not usually Warrants: if appropriate Cash Sweep: no Commodity hedging usually required

14 How to Finance Acquisitions in a High Price Environment “B” Term Loans First lien, longer-dated debt with senior bank covenants (pari passu) and 0-50 bp pricing premium Covenants tend to be light with minimal penalties for prepayment, as are fixed repayment requirements that typically rely almost exclusively on cash sweeps Primarily sold to institutions, therefore can be difficult to amend Minimal amortization requirements, high refinancing risk No borrowing base redeterminations $100MM minimum size Credit rating is typically required

15 Term Loan B Market LIBOR Spread Source: Loan Pricing Corporation

16 How to Finance Acquisitions in a High Price Environment Second Lien Debt (Senior/Sub or Structurally Subordinated Note) Second lien, longer-dated debt with more relaxed covenants and 100-300 bp pricing premium Primarily issued by banks and mezzanine firms Subject to borrowing base redeterminations or asset coverage/tail test Significant hedging is usually required

17 Oklahoma based Independent Approximately $5MM of PDP value at initiation with numerous PUD and Probable locations $5MM initial facility with a large APO NPI that decreased if WFEC achieved certain hurdle rates of return Facility used for development drilling, approximately $1MM was available for additional leases Swaps and/or collars were required After merger with a public company, a new facility was structured with $10MM of senior WFB bank debt and $7.5MM of subordinated WFEC debt WFEC granted a warrant (with a put option) to purchase approximately 12% of the Client Cherokee Basin CBM Development Financing

18 Cherokee Basin CBM Development WFEC WFB & WFEC

19 Marietta Basin Development Financing North Texas Development drilling program $28MM of initial PDP and $80MM of PUD reserves Long production history for the field; long life properties Experienced management team with only $1MM of equity between them $40MM Senior Mezzanine facility and $10MM limited partnership equity investment for initial acquisition, with $4MM of availability for additional development 10% guaranteed IRR on limited partnership equity 85% of PDP hedged initially WFEC syndicated half of the facility to a hedge fund

20 Marietta Basin Development Financing WFEC

21 Texas-based offshore development company GOM shelf operator previously financed by Shell Capital WFB syndicated a $14MM reducing revolver (now $41MM); WFEC provided a $6MM subordinated facility Proceeds used for future development WFEC facility secured by second liens No equity kicker for WFEC Company actively hedges PDP volumes on an ongoing basis The facility has been refinanced with a senior bank / subordinated debt structure with a lower blended cost  WFEC committed $27.5MM for development facilities for two affiliated companies, which included an ORRI. Offshore Gulf Of Mexico Development Financing

22 Offshore Gulf of Mexico Development Shell Capital WFB / WFEC

23 Williston Basin Development Financing Texas-based independent developing the Sleeping Giant Field in Montana Horizontal drilling play on the Bakken Dolomite at 10-12,000’ Acreage in Montana, plus DJ Basin acreage and reserves pledged Facility included a high interest rate and fees, but no ORRI or NPI Crude oil collars were used to protect against a decline in oil prices Reduced mechanical risk through a partnership with Halliburton Drilled and fraced 22 laterals in 24 months Monthly production increased from 200 to 2,700 BOPD PDP PW 10% almost doubled in one year; Total Proved PW 10% almost tripled in one year Private equity firm invested equity and the development loan was refinanced by a Wells Fargo senior credit facility Daily production now averages around 10,000 BOPD

24 Williston Basin Field Development WFEC (6/01) Equity + WFB/WFEC

25 Conclusions Capital is readily available to the industry Bank credit is available and relatively cheap Mezzanine firms are back Public debt markets are receptive Record amount of private equity is available Threshold for public equity is relatively high Acquisitions and development can be financed in today’s high price environment

26 Denver - Energy Annual Meeting December 13, 2001

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