Argent Energy Trust (OTC:ANGYF) is a Canadian oil and gas company that is organized as a "non-SIFT" trust. Because its assets are entirely outside of Canada, Argent can operate as a trust without being subject to the Canadian SIFT tax. This allows the company to pass on large distributions to shareholders. At its current, low price, Argent yields an unbelievable 17.7%. Previous articles here and here discuss Argent and its peers in detail.
Since those articles, several things have happened. First the torrid pace of insider buying has continued. Here are the purchases since the last article.
|12/3/2013||Tremblay, Eric J.L.M.||11900||$8.04|
|12/3/2013||Tremblay, Eric J.L.M.||5300||$8.03|
|12/3/2013||Tremblay, Eric J.L.M.||2800||$8|
|12/3/2013||Tremblay, Eric J.L.M.||2000||$7.99|
|12/3/2013||Tremblay, Eric J.L.M.||4000||$8.03|
Second, the share price has fallen--dramatically. The stock had been trending lower, but took an enormous drop last week when TD Securities lowered its price target for the company from $10.50 to $7.50. The TD analyst changed his valuation methodology to price the company at the blowdown value of its reserves, with no credit for future drilling locations. Why he suddenly changed his methodology during the quiet period right before earnings is not clear. Responding to the drop on share price, analysts from BMO and Scotia piled on, lowering their targets as well.
How good are those analysts?
Last year we saw a very similar situation with one of Argent's peers, Eagle Energy Trust (OTC:ENYTF). Just as it did with Argent, TD Securities slashed its target on a stock that was already down. Then the other analysts piled on: Scotia, CIBC, Desjardins, Pi Financial all slashed their price targets too.
These analysts called the bottom in the stock almost perfectly. If you had bought on their downgrades, you would have reaped a 38% total return. After the stock recovered, the analysts raised their targets - nearly ringing the bell at the precise top as well. For this group of stocks, the analysts may be the single best contrarian indicator. We find their reports to be rife with errors. The CIBC analyst overstated the company's debt by $20 million - a significant difference for a company this size. He also uses a production number that is below the low end of the company's guidance.
The Exchange Rate Windfall
The biggest thing the analysts appear to have missed is the big windfall Argent is reaping from the decline in the Canadian dollar. This is a critical point: Argent's revenue and some operating expenses are in $USD. However, ALL of its debt, interest, and distribution payments are in $CAD. Several analysts just ignore this fact, using $USD and $CAD interchangeably. But that misses a big windfall for the company: Argent has gained 10% in revenue over the last year, just be virtue of U.S. Dollar's rise. We're likely to see some of this windfall in the Q4 2013 earnings. But much of it won't come until this year, since the Canadian dollar has dropped over the quarter and almost 4% since the quarter's end.
Is that monster distribution sustainable?
A yield as high as 17.7% inspires disbelief. While there has been a panic in the stock, the company has repeatedly said that it plans to maintain the distribution throughout 2014. Can the company really do it? Let's look at the numbers (in $USD).
|DRIP Participation (low-end estimate)||70%|
|Production||7100 BOEPD (65% oil, 5% NGL)|
|Funds from operations||$85,518,000|
|Sustainability ratio net of DRIP||72%|
In short, the company is spending about 117% of its income on capex and distributions. Is that bad? In the wacky world of Canadian distribution paying oil stocks, it's actually better than average. Like its peers, Argent covers the cash shortfall with its DRIP program. In fact, when you include the DRIP, the company is only paying out about 72% of the cash it brings in. So the short answer is the distribution is totally sustainable. Longer term, we would prefer to see the sustainability ratio below 100%, i.e. without the DRIP. Since Argent has been growing its production massively, we think it's possible to get to that level without ever cutting the distribution.
An absurdly cheap valuation
Argent recently provided its year-end reserve report, compiled by a 3rd party firm. The report indicated a 32% gross increase in reserves, with a 6% per share increase. The table below shows the implication for the company's valuation.
|PV-10 value of reserves||$708 million ($638 million USD)|
|Land value (our estimate)||$60 million|
|Net value||$531 million ($8.79/share)|
By itself, this implies a value 45% higher than Argent's current price. But it doesn't include any credit for unbooked drilling locations. Conservatively stated, the company has over 100 locations in prime Eagle Ford land. With each location potentially worth around $5 million and derisking them at 20%, that implies another $1.65 per share, for a total of $10.44.
Short interest in Argent has climbed dramatically in the last six months, which may account for some of the price decline.
We sat down for a chat with Executive Chairman Eric Tremblay and CEO Brian Prokop last December. Both were highly confident in the company, which was confirmed in their subsequent stock purchases. The name Tremblay may ring a bell with Canadian trust investors. Tremblay's father, Marcel, was founder of Enerplus, one of the earliest and best run royalty trusts. Eric got his start with Enerplus and is committed to the same sort of growth path - growing from a $9 million start to a $5 billion company. We're confident they'll eventually succeed in this.
Additional disclosure: I am also long AET.UN on the Canadian TSX exchange. I am not an investment adviser and nothing in this article should be construed as investment advice. Please consult an investment professional before making investment decisions.