Saudi Dakota? With U.S. Oil Production Ascendant, Small-ish Exploration Stocks Come Into Focus
Within the last year or two, pundits have slowly ceased bemoaning the economic and geopolitical consequences of the U.S. reliance on imported sources of crude oil, particularly in the Middle East. Now comes a report from the International Energy Agency saying that by 2020, the United States likely will displace Saudi Arabia as the world’s single largest source of crude oil production.
The surge of new discoveries – mostly of vast oil and natural gas reserves contained in shale rock formations that new technologies make it possible to extract – are already shaking up the energy industry, even forcing pipeline companies to reverse the direction in which the oil or gas has historically flowed through their system, and sometimes even replacing natural gas with oil in those pipelines.
Some of the biggest new finds have come in unlikely places, such as the Northeastern United States, home to the Marcellus shale, that haven’t been fertile ground for energy companies to explore since the 19th century. One of these is the Williston basin in Montana and North Dakota, where discoveries of Bakken shale reserves may make North Dakota second only to Texas in terms of oil production. Last week, Norway’s energy minister spent several days touring the state, speaking at the University of North Dakota. It has been less than a year since Norway’s largest oil company, Statoil (STO), snapped up one of the biggest players in the region, Brigham Exploration Co., hoping to offset a decline in conventional North Sea Production.
Deals like that and news like the IEA report are shining a spotlight on some of the smaller companies like Kodiak Oil & Gas (KOG), Whiting Petroleum (WLL) and the relatively tiny Emerald Oil (EOX), formed when Voyager Oil & Gas acquired Emerald this summer.
Of all these small to mid-cap companies drilling for black gold in the Bakken, only Kodiak has begun to see the potential reflected in its stock price and valuation, even as production in the region has tripled in less than four years. Part of the problem is the transportation network: there simply isn’t enough pipeline capacity to get the new discoveries to market. While that will continue to shape profits at these companies over the short- to medium-term, that in turn may well provide investors with an opportunity to invest in companies with attractive valuations and enough cash on hand to pursue drilling programs and establish reserves while waiting for a solution to the pipeline bottleneck to emerge – as it will.
Whiting Petroleum, for instance, currently trades at a PE ratio of less than 13, and its cash position has improved as that valuation has dipped slightly. The company has disappointed on the earnings front, reporting lower-than-expected profits in recent quarters and seeing earnings dip in the third quarter, but those profits have risen more than 30% over the last two years, a period during which the company’s shares have actually declined.
Part of the reason is simply that putting in place the infrastructure to exploit the Bakken reserves isn’t free of cost; operating expenses have climbed 25% over that two-year period. There’s a convincing case to be made in favor of overlooking that in the interest of the long-term rewards that Whiting may generate – or the premium price that it might command should Norway’s oil minister have been sniffing around for future acquisitions on behalf of Statoil.
And then there is Emerald Oil, the former Voyager Oil & Gas. Under the pressure to raise funds to pay down its debt and continue its own exploration program, Emerald priced a larger-than-planned issue of 93.8 million shares Monday at a 10% discount to the company’s stock price as of Friday’s close. That move, which more than doubled the number of shares outstanding, sent the company’s stock price down another 3.77% Monday.
Analysts argue that the market is significantly undervaluing Emerald’s Bakken acreage. True, the company is a relatively tiny business and investing in it would be a micro-cap play, with all the liquidity risks attached to that. But Emerald may be at the bottom of the cycle, and its acreage, too, may make an attractive acquisition for a major-league oil and gas firm such as ExxonMobil (XOM), which, like Statoil, has already acquired acreage in the area. Canaccord Genuity analyst Stephen Berman has a price target of $10.50 on the stock, or a 40% discount to what the firm believes to be its net asset value of $17 per share.
Suzanne McGee is a contributing editor at YCharts, which includes the just-released YCharts Pro Platinum for professional investors.
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