Notes from Kevin Shaw- Likes AEI
TER: Congratulations on the success you've had with
Bankers Petroleum Ltd. (TSX:BNK), Painted Pony and
Arsenal Energy Inc. (TSX:AEI). Of all those companies, what are some common elements that allowed such dramatic appreciation of their respective share prices?
KS: I'm a technical guy—oil and gas engineer/operations—by background. I look for what I call a "manufacturing approach" to a lot of the plays. I like to see legs to the story, in terms of growth in proven and probable reserves (2P). A lot of companies in the oil and gas industry can go out and drill a few wells and press release some pretty big production numbers. At the end of the day, you have to build 2P reserves to build a successful oil and gas company—small or big. Companies like Painted Pony, Arsenal, Bellatrix, Midway, Ithaca and Sterling are all steadily building 2P reserves and increasing shareholder value. Many of these companies are involved in very repeatable-type plays in the oil and gas space. There is minimal geological risk in these plays, as the oil or gas resource is there. It really comes down to recovery and the application of technology for exploitation. They tie up the land, and then use technology—horizontal drilling, multi-stage fracks, etc.—to boost the recovery factor per well. They boost the production rates and focus on depleting the resource per section across their acreage in a very methodical "assembly-line" manufacturing approach. If companies are doing that and you can see that they've got low-risk acreage in front of them, reserve estimators will give them credit for the reserves.
TER: Where does the "manufacturing" come in?
KS: If companies boost recoveries on their assets, they'll continue to what I call "manufacture" oil or gas in the space. The Cardium companies like Bellatrix are doing that very effectively right now. Bakken players like Painted Pony in southeast Saskatchewan continue to do this very effectively and have made a lot of money for shareholders in the last few years with significant growth we believe still ahead of them in very repeatable plays both in the Bakken and in the Montney resource play in northeastern BC.
On our valuation, Arsenal Energy is a very undervalued company—one of the cheapest oil stocks in the entire domestic space. Arsenal has just recently released two very successful North Dakota Bakken horizontal results, with these wells coming in at over 1,000 barrels per day (bpd) gross for initial production rates. You get big reserves from both of those wells, anywhere from 400,000–800,000 barrels in 2P reserve bookings. Arsenal's acreage in North Dakota is very low risk, as it has a number of wells on its property that have been drilled successfully in both the Bakken and emerging Three Forks oil resource plays. Companies like
Continental Resources Inc. (NYSE:CLR) and
EOG Resources (NYSE:EOG) have been drilling up all around them and de-risked their acreage.
NuLoch Resources (TSX.V:NLR-A) is another North Dakota Bakken and Three Forks player to watch, with a huge acreage position (over 100 net sections) in these plays and partnered with larger companies like
Baytex Energy Trust (TSX:BTE). When you have companies that have acreage in the right spot and very definable and visible production ramps in a well-known play wherein they have a large inventory of drill-ready locations, the value growth going forward is present. That's why I believe a lot of these companies have, obviously, appreciated over the last year or so.
TER: What are some of your strong buys among the domestics?
KS: We've talked about a few of them already. Bellatrix is definitely a strong buy recommendation. It has one of the premier acreage positions in the Cardium play with 81 net sections. It is right alongside the PetroBakkens and Daylights of the world. Bellatrix is one of the most attractive valuations in the Cardium space compared with its peer group. If you reverse engineer the buyout matrix of some of the companies PetroBakken and Daylight have purchased in the Cardium space over the last six months, you get Bellatrix anywhere between $8 and $10 a share. It's trading just over $3 right now.
Bellatrix has a great management team. It's a sizeable entity—over 8,000 bpd right now—and planning to exit the year at around the 10,000-bpd mark. There are hundreds and hundreds of locations in two great repeatable resource plays (i.e., the Cardium), and then the very liquids-rich Notikewin play in Alberta. These wells are drilled for about $3 million each. They test at 10+ mmcf/d and make anywhere from 30–70 barrels per million of liquids, which is mostly all condensate. Even in a low gas price environment, the economics in those plays are hugely supportive at current gas prices due to the couple hundred barrels of condensate/liquids they get with these wells.
TER: Let's continue with the strong buys.
KS: Arsenal is a smaller company than Bellatrix; it is producing about 2,600 bpd now, but it is very heavily weighted toward oil—more than 75% oil. The company really has three different core areas of operation and drilling. Right now, they trade at about half of their net asset value (NAV). I think they are around
.90 on the recent broader market pullback, and it's trading at about 0.3x its price to cash flow at the end of this year. Arsenal is one of the best buys, valuation-wise; its stock should be well over a dollar.
Painted Pony's current trading price is more than backed up by what I call its Bakken oil "manufacturing" in southeastern Saskatchewan. It's in and around $6 and has over 100 net sections of Bakken acreage, which is over 95% undeveloped. We also believe the company's getting next to no value in its stock price for having one of the best acreage positions in the Montney shale play in northeastern BC. Painted Pony is surrounded by Talisman, Progress, Husky, Shell and others, with 126 net sections in the Montney. Over the last few weeks, it issued a press release on a couple of very successful Montney drill tests on its 100%-owned land; and the company's strategically partnered with Talisman and Progress on some bigger scale developments in the area. Painted Pony is one to watch, especially if gas price appreciates.
Another company in the domestic space and one to watch that just converted from a trust to a corporation is called Equal Energy. The company generates about 9,500 barrels of oil equivalent (boepd) and has several different resource plays in its asset portfolio. Equal has 21+ different oil pools here in Canada; and several of the favorites like the 'Cardium, Viking, Pemiscot and Dina light oil plays." It's just starting to drill some of growth areas and has already had some solid initial successes. The company, which rebranded officially as of June, is under new management; and management has done a great job of paying down over $150 million of debt so far to reposition this sizeable producer as a newly focused, emerging "mid cap." It's just coming out of the gate to start drilling its first series of horizontal wells; so that's one to watch.
TER: Any thoughts you'd like to leave us with?
KS: I see lots of room for growth in the energy side of the business. At some point, I see gas prices coming back to more of our cost basis on the North American side, call it $6–$7. As the gas price appreciates, you're going to see that a lot of stocks—both in the small- and mid-cap space—have a lot of torque to them. As the industries continue to put horizontal technology to bear, there's going to be significant growth in the oil plays domestically and internationally. It's a good place to be for investors—there's a lot of money to be made both domestically and internationally with oil prices over $60 a barrel.
TER: Thanks so much for speaking with us today, Kevin.
Kevin Shaw has extensive industry experience, including engineering, operations and management positions with Imperial Oil Resources, Trimox Energy Inc. and Colt Worley Parsons. Mr. Shaw has a B.Sc. in Mechanical Engineering with a minor in Petroleum; and an MBA from the Haskayne School of Business at the University of Calgary.