One of Warren Buffett's best quotes is: "After all, you only find out who is swimming naked when the tide goes out." In other words, the bad things are not obvious when times are good. I will paraphrase it a bit by saying: "The bad ratios are not obvious when times are good."
The times have been good during the last 10 months and Dow's tide has lifted many boats, including Gulfport Energy (GPOR). Gulfport Energy's stock has also risen due to the positive momentum which is intangible and fragile, of course. In other words, this momentum is susceptible to change any time, because the fundamentals are not there to support it, in my opinion.
When Halcon Resources (HK) was at $8 in early February 2013, it had also positive momentum. However, I explained in my article why its fundamentals do not justify its overly rich valuation. Halcon started to decline a couple of days later, and it dropped down to $6. Halcon's updated fundamentals as shown in the annual report confirmed my bearish call.
However, I do not short stocks often. I like being bullish on the undervalued stocks instead. To name a few, I recommended WPX Energy (WPX) in late February 2013 for the reasons mentioned here. WPX has yielded 20% since then.
I also recommended Bill Barrett (BBG) in late February 2013 and Enerplus (ERF) in January 2013 for the reasons mentioned here and here. These two stocks have yielded 25% and 15%, respectively, since then.
Gulfport Energy Corporation is an oil and natural gas company with its principal producing properties located along the Louisiana Gulf Coast (13,000 net acres). Gulfport has also acquired ~12,000 net acres in the Niobrara formation of Colorado and 128,000 net acres in the Utica shale of Ohio.
In addition, Gulfport holds ~200,000 net acres in the Alberta Oil Sands in Canada through its interest in Grizzly Oil Sands ULC, and has a small interest in an entity that operates in Southeast Asia, including the Phu Horm gas field in Thailand. Actually Gulfport holds just 0.7% from the Phu Horm gas field. On a last note, it also holds 11,000 net acres in the Permian basin which are non-producing currently.
From an acreage perspective, things obviously do not look impressive to justify the current staggering Enterprise Value (EV) of $3.7 billion. However, this is not enough to support my bearish call, and this is why I will dig deeper into the key metrics of this company.
The Key Metrics
The company trades well above its book value currently. Actually, PE and PBV are sky high, and they stand at 35 and 3, respectively.
Gulfport produced only ~6,800 boepd (93% oil and liquids) in Q4 2012. This is why the company avoids mention this low number, but it uses the totally produced BOE (barrel of oil equivalent) as unit to measure its production. This is a typical trick for any energy company whose daily production is quite disproportionate to its Enterprise Value.
Moreover, Gulfport has 13.88 MMboe proved reserves and 40.15 MMboe proved and probable reserves as of December 2012. Based on the current EV, Gulfport trades at $544,000/boepd, $266.57/boe of proved reserves and $92.15/boe of 2P reserves. The words are not enough to describe these staggering ratios. At least, I personally cannot find any.
Kodiak Oil (KOG) operates in the oil-rich Williston basin and is one of the most richly priced oil-weighted companies. Kodiak trades at $200,000/boepd and $37.9/boe of proved reserves, based on its current EV of $3.7 billion and production of 18,500 boepd.
During the last 5 months, Gulfport has exploited twice the fact that the stock flies at its highs, carrying such a whopping valuation. This is how the company increased its liquidity and funded its Capex for 2012 and part of 2013. Gulfport completed two private placements in late 2012 and early 2013 by diluting 30% the current shareholders. The total outstanding shares were ~58 million in Q3 2012, and they are 77 million today after the second placement in February 2013. Due to these two dilutive offerings, the debt has not risen much and the Debt/Equity ratio is 0.27.
However, the annual operating cash flow is ~$180 million, and eventually the D/CF (annualized) ratio is not exceptionally low at 1.7x to justify the current super premium valuation. I want to emphasize on this, because I own Surge Energy (ZPTAF.PK) in my energy portfolio. I recommended this intermediate oil producer when it dropped below $4 recently, and I consider it once in a lifetime buying opportunity currently.
I also analyzed in my article why Surge Energy is grossly undervalued currently. Some folks tried to justify the current undervaluation by saying that Surge Energy has D/CF ratio (annualized) at almost 2. This ratio was their explanation. To any knowledgeable investor, this ratio below 2 is very acceptable of course. This is why it does not change my bullish opinion. Surge trades at $41,000/boepd (73% oil and liquids) and $12.8/boe of 2P Reserves, while the peers have double valuations (both per flowing barrel and per boe of 2P reserves).
Needless to mention that any comparison with Gulfport's metrics causes Surge's bulls dizziness and headaches, to say the least.
This D/CF reference is another indication that the market is blind temporarily without judging all cases with the same criteria. However, the market does not stay blind forever, and the correction of the valuations to the upside or the downside happens sooner or later. This correction of the valuations either occurs abruptly reminding me of a runabout boat that changes direction quickly, or it happens slowly reminding me of a cruise liner which needs time to change direction from the moment the helmsman turns the wheel.
For instance, who can ignore that New Zealand Energy's (NZERF.PK) valuation rose 100% few days ago without any news? After the latest operational update, the stock dropped at 35 cents which was too much, and the market drove it up to 68 cents few days later.
Last but not least, Gulfport has been touting the 24-hour IP of its few wells in the Utica shale, but there is no reference about the decline curve and the IP-30, IP-60 and IP-90 rates which have the real importance for a quick payout.
Gulfport projects a production ~22,000 boepd for 2013. Total budgeted E&P capital expenditures for 2013 are $458-$512 million which implies that further dilution or debt is coming as the proceeds from the latest offering will fund the recent acquisition in the Utica shale.
Its Canadian entity, Grizzly, has entered into a 10 year agreement with Canadian National Railway Company (CNI) to transport its bitumen to the U.S. Gulf Coast via rail network. This arrangement is expected to provide access to Brent-based pricing from Grizzly's Algar Lake project. However, it has to be pointed out that the highly controversial and dirty bitumen is not premium priced light oil for the reasons mentioned here and here.
The access to the U.S. Gulf Coast will result in better pricing for its bitumen than selling it in the U.S. market, where the differential between WCS (Western Canadian Select) and WTI ranges from $25 to $40 currently. However, the company's bitumen will not be sold at Brent or LLS (Light Louisiana Sweet) pricing. Gulfport does not re-invent the wheel, and its strategy will simply reduce the aforementioned differential of $25-$40.
The transportation to the U.S. Gulf Coast is Rock Energy's (RENFF.PK) strategy too. Rock Energy is a heavy oil Canadian producer which I recommended recently at $1 for the reasons mentioned here. The stock is at $1.3 today.
I will have good faith, and I will accept that Gulfport will hit its production target by year end, although the operational hiccups are part of the game and happen quite often especially in startup projects like Grizzly's. The first production at Grizzly's project is expected mid-year 2013.
Based on the current EV, Gulfport will trade at a meaty $168,000/boepd by year end. I buy either bargains (a.k.a. grossly undervalued) or undervalued companies because I want to sleep peacefully the nights.
Even Kodiak Oil which is producing WTI-priced light oil without any hints of bitumen or heavy oil in its production, trades at $120,000/boepd based on its projected production of 30,000 boepd by year end. Eventually, I do not find one single reason why I should buy Gulfport today, when the market offers me a wide choice of alternatives to choose. Let's check out some of them below.
The following companies are oil-weighted and they have operations where Gulfport operates too. However, their valuation is much lower than Gulfport's valuation:
1) Those who want to have exposure to the Utica shale without highly overpaying for Gulfport, they can check out Magnum Hunter Resources (MHR).
Magnum owns 81,800 net acres in the Utica shale and produced 18,500 boepd (~60% oil and liquids) in late 2012. The EV is $1,7 billion currently, and the company has 73.1 MMboe proved reserves (December 2012).
Thus, Magnum trades at $91,900/boepd and $23.26/boe of proved reserves. Apparently, Magnum is not undervalued either, especially if we take into account that 40% of its production is natural gas.
However, due to the exposure to three liquids-rich formations (Utica, Eagle Ford, Bakken), the company has the potential to justify part of its rich valuation in 2013. It has also to be pointed out that Magnum's oil production consists of premium light oil without containing any dirty bitumen which is also associated with wide differentials very often.
I also analyzed here why Magnum's acreage in Tennessee and Kentucky can be a game changer for the company. Miller Energy Resources (MILL) is Magnum's neighbor in Tennessee and this obscure company has some very encouraging oily results there.
2) Whiting Petroleum (WLL) is another heavily light oil-weighted producer with operations in the Williston and Permian basins. It has also operations at the Gulf Coast where Gulfport has its main producing acreage currently.
Whiting produced 86,055 boepd (86% oil and liquids) in Q4 2012 and has 378.8 MMboe proved reserves (December 2012). With an EV at $7,8 billion currently, Whiting Petroleum trades at 90,600 boepd and $20.59/boe of proved reserves.
3) If the investors choose to ignore the consequences (i.e. environmental damage due to spills etc.) from the dirty bitumen, but they want it in their energy portfolio, Pengrowth Energy (PGH) offers the cheapest combination of the light oil and the bitumen.
Pengrowth produces light oil from the Cardium formation and the Swan Hills area in Canada, and it also owns the Lindbergh thermal bitumen project (100% WI) which is going to be commercially operational (first phase) by year end.
The first phase of Lindbergh commercial development is expected to reach 12,500 bbl/d of bitumen by early 2015. Two additional expansion phases are expected to increase total Lindbergh production to 50,000 bbl/d of bitumen by 2018. The similarity with Gulfport's bitumen project is more than apparent.
Pengrowth produced ~94,000 boepd (~55% oil and liquids) in Q4 2012 and had 512 MMboe of 2P Reserves in December 2012. The EV is $4,8 billion (including the convertible debentures) and thus Pengrowth trades at $51,000/boepd and just $9.38/boe of 2P reserves. It must be noted that Pengrowth also pays a hefty dividend of 8,5% annually.
What shines like gold may be hay. To me, Gulfport is a gold-priced hay at the current levels. This is why I will definitely stay away from it. I can find several other fairly priced or undervalued oil-weighted stocks with significant upside potential. My followers know it very well and they have reaped significant returns (i.e. my Argentinean energy stock picks have yielded more than 30%) in my short period (6 months) of writing for Seeking Alpha.