under-covered O&G, mining Companies

[libor.plus1]

So I've been shopping around for some decent EBITDA positive oil and mining companies that aren't that well known, or at least not saturated with coverage and I'm having trouble finding any. It seems that every company has 10-12 analysts on it, particularly in Canada. I know Contango has been discussed here a couple of times and its definitely an interesting gas producer to follow. The CEO seems to know his business and management/shareholder interests are aligned. Does anyone else have names they want to throw into the hat?

 

 

[oec2000]

Sorry, don't have an answer to your question but would like to ask a related question.

 

I have been struggling with how to value O&G companies and have not been able to arrive at a satisfactory solution. Was wondering whether anyone has suggestions as to books or websites that deal with valuation of resource companies. Advice would be much appreciated.

 

Thx.

[Myth465]

Contango has a good presentation on its website. Its attached below.

 

I look at production reserves and costs. I see the price of all commodities rising over the long term. I want a company with low costs, low to no debt, good management, and long term reserves. Everything else will take care of itself. I buy when the marginal companies cant make much money because the commodity is selling for too low. Natural gas at $3 is perfect. Right now is still a good time to buy but gas could go lower.

[oec2000]

Thanks, Myth, for the presentation and tips.

 

Like you, I prefer to look at reserves (as opposed to P/CF for e.g.). The problem is figuring out extraction costs and timing of extraction and also the reliability of reserve estimates across companies. Another factor which is difficult to quantify is how mgmt well mgmt allocates capital to replace reserves.

 

I suppose the complications are no different from those involved in analyzing insurance companies and we should just rely on the "margin of safety" principle - the right investment is the one that looks so compellingly cheap that it just screams out at you.

[StubbleJumper]

Sorry, don't have an answer to your question but would like to ask a related question.

 

I have been struggling with how to value O&G companies and have not been able to arrive at a satisfactory solution. Was wondering whether anyone has suggestions as to books or websites that deal with valuation of resource companies. Advice would be much appreciated.

 

Thx.

 

I've never figured it out either.  I understand the cost side better than the commodity price side.  I just toss the whole industry onto the "too hard" pile.  I'd love to understand it and be more confident.  But I just ain't smart enough.

 

SJ

[beerbaron]

Sorry, don't have an answer to your question but would like to ask a related question.

 

I have been struggling with how to value O&G companies and have not been able to arrive at a satisfactory solution. Was wondering whether anyone has suggestions as to books or websites that deal with valuation of resource companies. Advice would be much appreciated.

 

Thx.

 

I've never figured it out either.  I understand the cost side better than the commodity price side.  I just toss the whole industry onto the "too hard" pile.  I'd love to understand it and be more confident.  But I just ain't smart enough.

 

SJ

 

I second that. It's out of my circle of competence.

 

BeerBaron

[Myth465]

I think thats a good comparison. It just like insurance. You want to make sure Management is smart and can allocate capital.

 

You have to basically have blind trust on reserves for both of them. Over time it should be obvious though. There are much better capital allocators found in insurance vs energy though.

[Myth465]

Here is a good interview with the CEO of Contango.

 

http://www.fool.com/investing/general/2010/02/10/interview-with-an-oil-and-gas-contrarian.aspx

[keerthiprasad]

Thanks for the interview link Myth.

 

Contango's CEO always comes across as a really smart leader.

 

 

[Grenville]

Contango Announces an Investment in Alaskan Mineral Exploration

http://manualofideas.com/blog/2010/03/aaron_edelheit_on_contangos_st.html

 

http://www.businesswire.com/portal/site/home/permalink/?ndmViewId=news_view&newsId=20100308005852&newsLang=en

 

 

 

[benhacker]

Yeah, I'm scratching my head about that MCF PR.  What the heck?

 

Strange.

 

Ben

[Josh4580]

Ken Peak isn't an O&G explorer, he is a capital allocator.  Thats why this doesn't surprise me.

[Myth465]

Im really hoping for a pull back in MCF, but been waiting for about 2 months. I see nat gas going down to $3.5 or so and want to buy MCF on the cheap when it does. I own just a small amount right now and really like Peaks.

 

I love the end of the press release where he says at this moment consider it a small speculation. Very frank and honest. All his other unrelated vendors have worked out well overtime and delivered great capital gains.

[omagh]

libor,

 

I'm with the "too hard" group when looking at commodities.  Here's a good quote from Montier on current global mining company pricing.  He explains his modelling process to get to his opinion.  Montier recently joined Grantham at GMO, so now you get 2 curmudgeons for the price of 1  ;).

 

-O

 

http://www.simoleonsense.com/miguel-barbosa-interviews-james-montier-part-1-value-investing-tools-techniques-for-intelligent-investing/

James Montier: In theory DCF is a great way of valuing a company (in fact, the only way). However, it’s implementation is riddled with pitfalls. With enough creativity a DCF can turn out any answer you like. So rather than try and combat this, I prefer to use reverse dcf. This effectively takes the market price, and backs out the growth that would be required to justify the current price. I can then compare that implied growth against a historical distribution of all company growth rates over time and see whether there is any chance of that growth actually being achieved.

 

In terms of the mechanics, these things can be a simple or a complex as you like. I tend to use a three stage model, I use the analyst inputs for the first three years, and a trend GDP related growth rate for the terminal years, and then imply what the market implies for the middle period of growth.

 

For instance, at the moment the mining sector implies 12% growth p.a. each and every year for the next two decades! That is a cyclical sector with an implied growth rate double a generous estimate of nominal GDP growth. Cyclicals masquerading as growth stocks rarely end well for investors.

 

So I've been shopping around for some decent EBITDA positive oil and mining companies that aren't that well known, or at least not saturated with coverage and I'm having trouble finding any. It seems that every company has 10-12 analysts on it, particularly in Canada. I know Contango has been discussed here a couple of times and its definitely an interesting gas producer to follow. The CEO seems to know his business and management/shareholder interests are aligned. Does anyone else have names they want to throw into the hat?

 

 

[Stove]

I think what Montier is really saying is that the market is pricing in essentially flat commodity prices going forward, which would be the impetus behind 12% volume growth.  Predicting commodity prices over any period of time is crazy, and should not be attempted by analysts, or people.  But when the market chooses to tell me that copper will not fall below $2.50 for the next 10 years, I will gladly bet against it. 

[Rabbitisrich]

Paul Kedrosky just wrote an article about the importance of perspective and timeline in the Julian Simon and Paul Ehrlich bet: http://paul.kedrosky.com/archives/2010/02/re-litigating_t.html

 

It's a healthy reminder for commodity speculators.

[claphands22]

This is how I think of resource companies.

 

four main factors

1. price of the commodity

2. yearly production capabilities

3. size/life of the reserves

4. cost of extraction

 

Also be aware, most if not all oil wells have peak production early in their lives than later, and production costs generally are higher towards the tail. The same thing is true with mining, but there isn't much of a peak-factor as there is with oil.

 

All companies require a margin of safety but I tend to lay it on thick with resource companies. Lots of things can go wrong.  These industries are accident prone, management tends to acquire too much debt, resources in unstable countries and of course, the price of commodities can fluctuated deeply.

 

Most of the time resource companies are either too hard to value or the margin of safety isn't there. Yet sometimes you can find resource companies where Mr. Market isn't valuing the company rationally. Some examples are (1) company with hedged commodities, but the market doesn't price in the hedge (2) increased production capacity not being priced in the market (3) companies with great balance sheets, cheap extraction costs and the market believing low commodity prices are the indefinite future "cheaper to drill on wall street" - this happened earlier with MCF.

 

[netnet]

I have been looking at AAB.to--Aberdeen International.  They are a merchant bank in the sector.  They are selling at a substantial discount to NAV and are repurchasing shares. (By the way, I like them better than Endeavour Mining Capital .  Those guys were selling their undervalued stock instead of buying, and they are finance guys (allegedly).  Up to the crisis Endeavour had a great run for five years or so; almost  precisely at the bottom of the market they issued shares, that was it for me for that company!) Anyway they and AAb have similar business models: they finance the juniors in the sector.  Obviously they have an informational advantage and give you some diversity in the sector.

 

netnet