Gastar Turns Lemons Into Lemonade - Cubic Deal Delayed, Gastar Gets Paid

Aug. 1.13 | About: Gastar Exploration (GST)

Gastar (NYSEMKT:GST) announced a further delay in the closing of the sale of its East Texas assets to Cubic Energy (CBNR.OB). While the headline is a negative, as it delays additional liquidity to Gastar for drilling highly economic Marcellus and Hunton wells, looking at the details it becomes clear that Gastar has managed to extract some value out of this.

Specifically, Gastar was paid an additional $1.15 million non-refundable deposit for a 15 day delay, and if there is a further 15 day delay another $1.15 million deposit will get paid. This annualizes to $27.6 million, or over 50% of the potential purchase price of the asset. While obviously it won't continue in perpetuity, Gastar's management has positioned the company to extract considerable value if the transaction does not go through. There is now $3.45 million deposited, or ~7.5% of the $46 million anticipated transaction, not including the $1.15 million that will be deposited if there is a delay beyond August 15th.

Beyond the rapidly increasing non-refundable deposit Gastar is holding, there have also been some asset-level positive developments in East Texas. These could make Gastar shareholders less concerned about the prospect of potentially keeping the asset in case Cubic does not secure funding. Specifically, Halcon Resources (NYSE:HK) has had success in the "El Halcon" play, which overlaps Gastar's East Texas land position. It appears Halcon may have cracked the code to making the previously bypassed oil zones in the area economic. Halcon has publicly stated that it is seeking to build its acreage position in the area from its current ~50,000 net acres to 100-150,000 net acres. Gastar's ~20,000 net acres in the area could be helpful if the Cubic deal doesn't go through, and Halcon's success in the area could lead to a higher sale price for Gastar.

Beyond just East Texas, if the Cubic deal doesn't go through, it could make Gastar an attractive acquisition candidate for Halcon. Halcon trades at a high trailing cash flow multiple and has billions of dollars in debt with unfortunately limited success in some of the resource plays it has expanded into. Gastar's low enterprise value to cash flow multiple, along with its success in the Marcellus and the Hunton, could give Halcon two more "legs to its stool" with which to rapidly grow oil and gas production, predictably and economically. After Halcon bought out GeoResources last year, analysts have speculated regarding who the next target will be. I'm not saying it will necessarily happen, but it could be a logical fit, and Gastar is certainly cheap enough to be accretive to Halcon on a number of metrics.

Analysts recently came out with price targets of $4.50 to $4.70 per share for Gastar, versus its recent $3.30 share price. This leaves considerable upside versus where it is trading. And the reports indicated that there is further upside if the Hunton play turns out to be successful. Considering over 95% of the publicly released results in the Hunton have been economic (with over 20 results now public), this seems increasingly likely, and could lead to price targets well over $5 per share. Gastar's earnings report will come out in the next week, and growing production and cash flow could be a catalyst to drive the stock closer to analysts' price targets.

Disclosure: I am long GST. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I may buy or sell any position mentioned at any time without further notice. Please keep HK tagged on this as it is material to its investors, both because of discussion of its discoveries and because of its potential to be an acquirer of Gastar for the reasons described