The recent purchase of Nuloch Resources Inc. (NULCF.PK) and NGas Resources Inc. (NGAS) by Magnum Hunter Resources Corp. (MHR) could turn out to be a boon to share price. The NGAS purchase has resulted in possible litigation, which could affect the deal for Nuloch. But if everything goes as planned, these two deals could form a JV oil exploration and production company into a one billion dollar corporation.
My first response to the NGAS purchase was negative. Oil has much better margins, and better profits. Chesapeake Energy Corp (CHK) CEO Aubrey McClendon was on CNBC being applauded for his hedging strategy, but in the same interview, he commented on some natural gas companies only breaking even on today's prices Oil margins are great and this is why CHK is wanting to become the 5th largest producer of oil in the United States. They currently are ranked 13th. Looking at the price paid for NGAS, this could be a steal if natural gas prices move up. The only hang up is the shareholders. Litigation filed by NGAS shareholders was not to stop the buyout, but to increase the purchase price. The lawsuit used two metrics for price. They cited NGAS stock price was as high as $1.11 in August of 2010 and an analyst recommended a price target of $1.00 as proof of not receiving fair value. The only problem is there is no value when you can't pay your creditors, only bankruptcy.
After some research on the NGAS deal, I found some reasons to be bullish Magnum Hunter Resources Corp. MHR was able to use stock to pay some of the NGAS debt. By rolling it into the share price, it would be realized at deal completion. This decreased the amount of debt MHR would have to place on their balance sheet. MHR would add 78.4 Bcfe to their proven reserves. Although NGAS leases are 74% gas, the 26% oil seems much more interesting. 1400 producing wells were acquired. Daily production of 9.2 Mmcfe was also added. Due to the large leasehold NGAS had (300000 acres), in prime locale (98% success drilling Appalachian Basin), MHR could keep producing with the current wells until natural gas prices recover. By leaving the reserves in the ground, they can wait to drill the undeveloped acres. NGAS had 68% undeveloped.
Going forward, there are approximately 2400 locations to drill. These locations are low-risk horizontal drilling sites. In the short term, MHR plans to begin drilling on the Huron and Weir oil plays. It is thought that these two plays could have significant potential. Right now many natural gas exploration and production companies are starting to drill for more oil. With less natural gas drilled there is less on the market, which should help push the price up.
To get more exposure to the Williston Basin, MHR purchased Nuloch Resources Inc. The deal was done in an all stock deal like NGAS. Nuloch has proven oil reserves of 5.9 MMboe with 85% being oil, estimated probable reserves are 3.3 MMboe. Acquired production capacity is 1550 boed. MHR received 13.6 net Bakken/Three Forks Sanish wells. Total net acres added are 71600 in the Williston Basin and 50680 in Alberta. In the most optimistic view, there are 267 net identified drill locations with the Bakken/Three Forks Sanish targeted first. Estimated risked reserved potential at 31.4 MMBoe.
These deals provide upside going forward. Magnum could now be a major player in the Bakken. Estimated ultimate recoveries will be in the 185 to 450 MBoe range in their new Bakken purchase. Estimated risked reserve potential at 31.4 MMBoe. Magnum recently signed deals with Samson Oil and Gas (SSN) and Baytex Energy Corp. (BTE) to help work with their assets to begin production.
If both deals get done we will see a transformation into a different company. The combined company will have a one billion dollar market cap and a daily production of over 6000 boe/d. 55% of this will be oil. Proven reserves will be 32 MMboe. They will have 500 drilling locations on 547000 acres.
The only worry with MHR is having to raise capital. Magnum has only $836000 in cash and $53 million in debt. Given the total capitalization is $151 million, the debt to total capitalization is currently 35%. Hopefully the lack of liquidity does not become a problem. MHR currently has hedges in place. Natural gas is hedged this year at $5.98 on 51% of their natural gas. 2012 is hedged at $6.15 for 63% of total natural gas produced. Oil is fully hedged at $85.08 this year. The most important piece of information on MHR is their performance. They are currently the best performing stock with respect to share price in 2009 and 2010. Their shares are up over that time frame by 2163%. Much of this has been done by acquiring distressed companies in unconventional resource plays. It will be difficult to duplicate the performance of the past couple of years. Magnum traded to a low of $.30 two years ago and now it is situated over $7. I bought some here to add to my Bakken stocks Kodiak Oil and Gas (KOG) and Samson Oil and Gas.
Disclosure: I am long SSN, KOG, MHR.