Past articles have shown the similarity between Goodrich Petroleum (GDP), Rex Energy (REXX) and Gastar Exploration (GST). The similarities are apparent: each of these companies are primarily natural gas producers that are shifting their drilling and production focus more to oil and natural gas liquids. Each has a core natural gas producing property and has a relatively early stage unconventional liquids rich property which has yielded promising, but not totally conclusive, results. And each is growing production and cash flow rapidly.
What makes this comparison interesting is that two of these companies trade at over 10x their 2013 EV/EBITDA. And the third trades at around 6x its 2013 EV/EBITDA. The two at 10x+ are Goodrich and Rex. And the one at 6x is Gastar.
Many reasons have been floated for why Gastar trades at 6x when the other two trade at 10x+. One reason is that GST has traded up significantly from the start of the year, up almost 400%, while GDP and REXX are up "only" ~100% in that time. However, that argument does not hold much water when previous year performance is observed - GST was simply making up for losses in stock price the previous year from a lawsuit against it, which was settled this year.
Another reason cited is that Gastar is "more gassy" than Goodrich and Rex, but this does not hold true, they produce similar percentages of oil and natural gas. And they have comparable rates of return from their core and emerging assets.
In a conversation with a brilliant sell-side research analyst (yes, they do exist) the other day, he mentioned a factor that I had not yet considered which may explain the difference in valuations, and could actually be very promising Gastar's stock price going forward. He pointed out that Gastar's institutional ownership is only 25%, versus 86% for Goodrich and 93% for Rex. This means only 25% of Gastar's shares are currently held by mutual funds and reporting hedge funds, versus nearly all of the shares of Goodrich and Rex being held by those funds.
If those funds chose to cycle into Gastar, which trades at a significantly lower EV/EBITDA multiple than Goodrich and Rex, they could drive the stock price significantly higher and could help close the valuation gap. To highlight how much of an impact this could have, every 1x multiple is ~$1.50 per share to Gastar. If Gastar traded to a 10x 2013 EV/EBITDA multiple, it would trade to ~$9 per share, versus a recent $3.50 per share, almost 3x the current price.
For an example of what that type of institutional investment movement can do to the price of a stock in a short period of time, one can look at Triangle Petroleum (TPLM) and its recent up almost 20% day on September 10th. The movement was on large volume, on the back of numerous analyst target price movements higher and a positive quarter. Part of what likely drove both the higher volume and higher stock price is Triangle's shift to a higher share of institutional ownership - it is currently at 44%, a large increase from much lower institutional ownership a couple years ago.
As this share of institutional owners continues to increase, TPLM may continue to perform well on increasing volume (assuming continued operational success). Gastar has even lower institutional ownership and has achieved even more remarkable operational and deal making success than Triangle recently (Gastar managed to buy a $75 million asset "for free" by re-selling half of it for $75 million!), which means it has the potential for an even more substantial price re-rating as institutional investors cycle into the stock.
Obviously there are other factors that drive stock price, and Gastar will need to continue to outperform to send its stock price up to valuation levels in line with REXX and GDP. But increased institutional ownership will be a major factor, and Gastar seems well on its way to building its institutional base, particularly as the stock price stays above $3 and gets closer to the "magic" $5 per share level that allows additional institutional investment.