In the new year, PWE has traded above $20 and I made the move to exit this investment. I have been a unit/shareholder since 2007 and while my cost basis is a bit higher than current prices, I have made ~20% on this investment due to previously high yields.
Despite this gain, there's on denying that Penn West has struggled during these last 5 years. Obviously, the tax surprise sprung by the Canadian government on trusts hampered the stock but the company was beset by operational issues as well. When I first bought the stock, management focused on possible oil sand and enhanced recovery resources. After a bit of floundering and appointing a new CEO with a different strategic focus, the company seems to be on firmer ground from an operations standpoint. Nevertheless, proved reserves have dropped 16% since 2007, a worrisome sign for a commodity resource company.
Traditionally, PWE has been a dividend play due to its high yield but with a) the conversion to a corporate structure and b) unsustainable financial results, income investors should exercise caution as Penn West lacks the stability to maintain and grow its yield, something most dividend investors seek.
Despite my reservations about the quality of the company and its assets, the primary reason I am exiting this investment is valuation. Based on Penn West's reserves, I value the stock anywhere from $20 - $25 but would lean more toward the bottom end due to the company's poor execution history. I gave no credence to possible resources that may be converted into reserves in the future -- there are other companies with more promising possibilities in this regard. After all, Chesapeake Energy (NYSE:CHK) is sitting on fantastic shale properties, both liquid and gas, and unlike PWE, CHK has a history of making good on converting resources into reserves (Chesapeake has other issues -- see my analysis here).
A bet on PWE is basically a bet on oil -- investors are not getting a bargain on its assets and I see no reason why PWE would outperform the commodity or its peer group. Better choices to play the energy space may be Devon Energy (NYSE:DVN) or Talisman Energy (NYSE:TLM) which seem to have more potential to outperform relative to other energy stocks.
With all that said, I could not resist the temptation to wring out a few more points of return out of PWE. Instead of outright selling the shares, I sold in-the-money $20 June 2012 calls for $2 premium, adding another 10% of possible gain and collecting one more dividend in the process. If shares finish above $20 come June, I will be out of the shares though I lose any upside above $22 (once the $2 premium is factored in). If shares fall below $20, I will still own the stock though my downside is now covered to $18. If shares should drop substantially below that, I may have to revise my opinion -- shares could be a buy or a sell at that point depending on the cause of the drop. We'll see come June.
Additional disclosure: I am also long CHK preferred D and short PWE call options.