With oil having been cut in half over the last six months, it seemed like as good a time as any to hear from someone with a little optimism about oil — and there’s not a lot of that going around at the moment, other than general chatter about how this is a “historic” (if vague) opportunity…
… everyone in the great investment punditocracy wants to be able to take credit for putting their flag down and saying “this is it, this is the bottom” even though they don’t really want to risk all their money on a particular price point ($50? $40?) just in case it turns out that, well, $20 oil is the bottom, and it doesn’t come for a couple years. We all have to be careful about what is really a “known” and what’s just a “gosh, that has to be true, right?” And no, there is no “known” about what the “right” price for oil will be in six months — everyone is guessing.
Some are guessing with more information than others, but they’re still guessing about a future that is full of almost completely unpredictable variables (Chinese growth rate, global economic growth, car sales, terrorism, unrest, Saudi reserves and capacity, OPEC cohesion, petrostate political implosion, efficiency gains, etc. etc. etc.)
I’ve had plenty of investments in oil-related stocks — and still have several — and I sure didn’t see oil falling by 50% in six months. Of course we tell ourselves that we’re ready for losses, and we know that investments in equity are fundamentally at risk… but a drop in half for both of the world’s most traded commodities (oil and iron ore) in one year is a little crazy, particularly because it comes at a time when the global economy is not in full-on collapse and is, though jerky and troubled in spots, at least doing OK on average. Most people are still just shaking their heads, thinking the same thing they did when oil fell to $80, then $70, then $60, then $50… “it can’t go down forever… right?”
Which brings us to our teaser pitch of the day — this one’s from Chuck de Castro for his Penny Oil Speculator, which has been around for a while but is fairly low profile… no free articles or daily free e-letters like most of the publishers use to get your attention, just the newsletter (published under the same umbrella as Bob Czeschin’s Oil and Energy Investment Report).
And de Castro is telling us that, for oil stocks, this is an opportunity like 2008 (when, if you’ll recall, oil fell from about $143 to $33 in less than six months)… and it will have a “bounce back” like 2008 as well. Here’s how he puts it:
“This is an opportunity for you just like 2008, which was the previous big decline in oil prices. And you could’ve quadrupled your money in about two years.
“Back then, I gave an all-out buy signal for nine oil stocks. Eight of them rose over the next year and a half. One fell.
“On average, if you had bought those nine stocks, you could have quadrupled your money (384% profits). And that includes the loser.”
Now, it’s hard to base a lot on one historical example — and over the last 20 or so years, there really aren’t any others. Before 2008, we thought it was wild when oil bumped up or down by 25-30% or over a month or two because of war (Gulf War 1) or terrorism (9/11), but those kinds of large moves were pretty quickly corrected and had a real geopolitical connection to oil as a scarce resource that was sourced largely from an unstable part of the world.
That was before oil really became a financial asset, hoarded on tankers by Wall Street folks and speculated on by day traders, and, of course, it was before the US got back in the game as a growing oil producer. So yes, oil stocks came back strong in 2009 and thereafter when the oil price recovered — but that was also a recovering global economy and there were a lot of other things going on, including the resumption of “normal” economic activity that let oil drillers borrow money and pay their bills and drivers use the ATM to get cash to buy gas… there were a lot of normal “take for granted” economic activities that didn’t quite feel “safe” or guaranteed in late 2008, if you’ll recall.
Anyway, I’m getting off track again… the point was that we were lookin’ for de Castro’s stock pick, yes? So what does he tell us about it?
“$50 oil is creating the opportunity for you to buy low-cost, fast-growing oil stocks at 50% off
“Where the money was made in the 2008/2009 downturn were with small companies with large holdings of oil that produced oil cheaply — well below $50. So they were profitable. It’s the same today.
“A tiny company that can produce large amounts of oil for $30 a barrel is still making good money. And if its stock is getting hammered by panic selling in the oil patch, so much the better! You get in cheaply and ride it up.
“When oil goes back up to where it was, the company’s profits will double, triple, or even quadruple and carry the share price along with them.”
OK, so that’s what he’s looking for — what did he find?
“One such company is using modern drill technology to bring a huge European oilfield to life at $28 a barrel….
“The oilfield is so rich that their cost is just $28 a barrel. So $50 oil isn’t slowing them down a bit. They have an ongoing string of great quarterly results.
“Production just exceeded 21,500 barrels of oil a day — up 18% from the same period a year ago.
“Earnings are up 31%; an amazing feat with oil down $55 in six months.”
So who’s that? Well, he throws in a few more clues, including the he thinks they can add another 160 wells this year, more than doubling output, and that they have nearly 1,000 “high -probability drill sites” so they’re not running out of work to do.
And, of course, he notes that the stock is down 56% in six months. So who is it?
Well, the Thinkolator is all fueled up (only $2.40 a gallon these days, improving Stock Gumshoe’s thinkolation margins considerably), and when I got it all fired up the answer came out awfully quick: This is Bankers Petroleum (BNK in Toronto, BNKJF on the pink sheets), one of the all-time great “discovery” windfall stocks of the mid-late 2000s as they re-found some huge fields in Albania and showed early investors to gains of something like 50,000%.
Of course, that’s not going to happen again — but it is a producing oil company with a monster field (depending on whose perspective you’re using — a monster for Albania, at least), and it’s still of a decent size — the market cap of $600 million or so is well down from the peak of $2 billion about four years ago, but they’re not a sprite.
And if you look at the financials, everything looks lovely! Revenues climbing, earnings mostly climbing quite nicely, what could go wrong? Of course, they haven’t actually filed their financial details and gotten that data into the aggregator sites since September 30 of last year, and back then Brent Crude prices were still at $95.
So the fact that, yes, by some measures their earnings were up 31% back in September is not terribly relevant now. Earnings for the December quarter are going to be much, much lower. Obviously. And even the operational update for the fourth quarter, which they released this week, reminds us that it wasn’t just an overnight drop that’s now done and we can get on with our lives — the average Brent price for the quarter was about $76 as it fell from $95 to $55 in almost a straight line, and it’s at $51 now. There’s no guaranteed bottom that I can see, other than that nice little line that goes across the bottom of the chart at “0”. (No, oil isn’t going to zero — I just don’t know where it “naturally” will stop, or if it will go up after it stops going down.)
That said, yes, Bankers is certainly in better shape than a lot of drillers — particularly the higher cost offshore or shale drillers who count on oil being well up in the $60s or $70s to break even or make a profit. They have two large oil fields, and they do have some production costs (including enhanced oil recovery — injecting water and polymers to boost production), but their actual lifting and operating costs are not that high. According to their recent investor presentation, their cash margin at $50 Brent is about $23, partly because of hedging on the first 6,000 barrels of daily production in 2015.
So they’re not likely to go out of business at $50 oil… which is saying something, at least. But that doesn’t necessarily mean they’re going to thrive. If they produce something like seven million barrels of oil this year, which is roughly the pace they were on at the end of 2014 (though they have slowed down drilling and investment with lower prices, including stacking at least one rig), then that would be about $140 million of operating cash flow (seven million barrels times $20 cash margin per barrel). Which is less than half of what they made in operating income over the last four reported quarters — so yes, the stock is down, and it should be down unless you’re sure the oil price will recover. We can argue about whether BNK should be down 60% from the highs like they are, or whether they should instead be down more like 20-30% because of their relatively low operating costs, but I don’t know who wins that argument unless you can be sure about whether oil is at $20 or at $60 or $80 in twelve months.
After the current hedging is run off at the end of 2015, from what I can tell, their actual operating costs aren’t going to go a lot lower than $20-25 (royalties, operating costs and shipping), and their actual selling price is about 75-80% of the Brent price (which means that right now they’re selling their production for roughly $38), so the margins would certainly be getting squeezed without those hedges and other offsets.
Will it work out? I bet it will probably do well if oil goes back up. Beyond that, you’re on your own.
So what else is de Castro hinting at among his favorites? Here’s the next set of clues:
“My next reco is another tiny oil company …
“Producing 21,000 barrels a day for less than $25 a barrel
“This company has a great track record discovering oil in South America. And by rapidly bringing these discoveries into production, output has gone from zero to a hefty 21,000 barrels a day.”
Hmmm… which one? A few more specifics to feed into the Mighty, Mighty Thinkolator:
“They have $360 million in cash, zero debt, and $170 million a year in earnings. They continue to expand and grow….
“I expect production to rise from 21,000 barrels per day to 35,000 barrels per day despite $50 oil. And I expect earnings to hit $250 to $300 million a year. That would bring the forward P/E ratio down to 3….
“… the shares have been hammered down to less than half of their recent high. Yum!”
Hoodat? Thinkolator sez he’s teasing: Gran Tierra Energy (GTE)
Gran Tierra has been a newsletter favorite a few times over the last decade, whenever junior exploration in South America gets hot their name pops up. They’ve never had the “whale” discovery like Bankers Petroleum in Albania, but they are producing eight or nine million barrels of oil a year in Colombia plus a tiny amount in Brazil, and they have discovered oil in Peru and were just on the verge of starting production there as of late last year. The company has been profitable and growing for five-plus years, and they aren’t stopping operations — they did announce a $310 million capital spending program for 2015 last month, and they do have $360 million in cash so they can cover it.
And yes, the stock is down from $7+ over the Summer to about $3.35 now. So they trade for about 6X trailing earnings… but, of course, trailing earnings are largely meaningless with their primary product now selling for about half what the price was in the last four quarters. You can see their December investor presentation here, as of then they still expected to be increasing production to about 22,000 bopd (which would be about a 10% increase from 2014). Costs are not particularly high, as far as I can tell from their press releases (haven’t read the filings), but I don’t know at what point they have to curtail investment if prices continue to fall — about half of their capex is pointed toward continuing to grow their Colombian production, but the rest is earlier-stage exploration and “elephant hunting” in Peru and, to a lesser extent, Brazil.
So there you have it — two “big junior” oil producers in Albania and Colombia with market caps between $500 million and a billion dollars, with stock prices that have fallen because everyone knows they’re going to make less money now than they were making the last time they reported earnings… both have decent production and balance sheets and at least some ability to withstand current low oil prices, at least for this year. Have they fallen too far? Are these opportunities? That’s your call — it is, after all, your money. I haven’t bought any oil stocks yet this year, personally… let us know what you think with a comment below.