Especially in the land of the microcaps, stock pricing can move to extremes. But bad news can be your friend, if it provides a buying opportunity like Basic Earth Science Systems (OTC:BSIC). I’ve been following BSIC trend downward for six months now, and I now feel that the stock represents a very attractive risk/reward. Therefore, I purchased a moderate position Friday morning at $1.41.

The simple fact of the matter is that Basic Earth has gotten absurdly cheap. The stock has been really punished by the fact that its highly publicized interested in the Christmas Meadows exploration project has so far been a bust, but investors are failing to see the value in BSIC’s already producing assets. On a simple reserves basis, BSIC has a very attractive valuation.

As per Basic’s Annual Report from last year, the company had proven reserves of 952k barrels of oil and 970k Mcf of natural gas. Given that they have produced 79,600 barrels of oil in the first nine months of this year and 120,100 Mcf of natural gas, we can estimate that full year production will probably be around 105k barrels of oil and 160k Mcf of natural gas. Therefore, when the company reports updated reserve numbers in 2007, total reserves should be about 847k barrels of oil and 810k of natural gas. This assumes that no new reserves have been added during the year, which is probably not true, but nevertheless provides a conservative estimate.

Now, the company states in its annual report that the present value of these reserves is approximately $15 million, but they have used excessively conservative numbers in calculating present value. My own conservative calculations yield a much higher present value of these reserves, and I will discuss them below.

In order to calculate the present value of BSIC’s reserves, I have used prices of $50/barrel of oil and $5/Mcf of gas, both of which represent significant discounts based on current spot prices for oil and gas. I have also assumed a risk free interest rate of 6.5 percent, which represents a premium of almost 2% on the 10 year treasury. Finally, I have used a time period of 10 years for the production, which is conservative based on the fact that the company is currently producing over 100k barrels of oil per year.

Using these numbers yields a conservative present value of total reserves of $24.8 million. If you add the company’s cash reserves of $1.8 million to the pile (they have no debt), Basic Earth appears to be worth at least $26.6 million. Yet even at the full diluted share count of 17,125,635 shares, the company is sporting a market cap of $24.1 million. The selling in BSIC has been so overblown that the company is now trading at less than the present value of its reserves plus cash.

In addition, the present value calculation above assumes some pretty significant discounts for oil and gas prices. The math is pretty simple, but if you valued oil and gas at $60 and $6 respectively, we are looking at a pretty steep discounting of Basic Earth’s reserves.

Finally, Basic Earth is both profitable and cash flow positive, which provides a very stable base for further exploration. Although the most recent quarter showed declining profits due to the impact of taxes kicking in, production has been steadily increasing at the company for several quarters, and looks poised to continue increasing steadily through 2007. With a solid and increasing cash position, Basic represents a deep value play amongst the junior oil producers in the U.S.

Obviously, it goes without saying that BSIC’s chart is awful, so it will take some time for the stock to put in a bottom and begin to look attractive to other investors. However, I am content to be patient and wait for continued operating results, which should provide support for the stock to move higher. Certainly, a market cap of $30 to $35 million looks to be justifiable here, with the potential for an even higher move if the company has success in further exploration.

**BSIC 1-yr chart**