PrairieSky Royalty: A Compelling Oil And Gas Play

| About: Prairiesky Royalty (PREKF)

Summary

PrairieSky will profit from the run up in oil and gas prices.

The latest CNQ acquisition will be a significant revenue driver moving forward.

PrairieSky's dividend will grow as cash flows continue to rise.

Introduction

PrairieSky Royalty (OTC:PREKF) was created from a spin-off of Encana's (NYSE:ECA) royalty lands in 2014 and is now the largest oil and gas royalty company in Canada.

In late 2015, PrairieSky continued to consolidate Canadian royalty lands by acquiring 81% of Canadian Natural Resources' (NYSE:CNQ) lands with its increasing cash pile.

The latest acquisition increased its lands by over 50% and should be a huge revenue driver in 2016 and beyond.

Business Model

PrairieSky's business model is one of low risk high reward. The company receives royalty revenues from oil and gas companies that develop their products on its lands. Therefore, the company does not directly conduct oil and gas, but rather profits from other oil and gas companies.

The producers on PrairieSky's lands are well-established oil and gas companies and none of them make up for more than 10% of the company's total revenues.

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(Source: PrairieSky Royalty Corporate Presentation)

These top 25 royalty payers account for 76% of revenues and are solid, well-established oil and gas companies.

For example, players like Conoco (NYSE:COP), Whitecap (OTC:SPGYF), Exxon (NYSE:XOM), Canadian Natural Resources have solid balance sheets and will most likely continue exploring PrairieSky's lands for years to come, securing both short-term and long-term royalty revenues. However, one of the main weaknesses from this business model is that PrairieSky's revenues are closely tied to oil and gas prices. This is seen more significantly in the year-over-year change in Q1 2014 earnings vs. Q1 2015 earnings, having dropped from 51 million to 17 million.

Royalty revenues, low risk high reward:

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(Source: PrairieSky Royalty Corporate Presentation)

With the bottom of oil prices in early 2016, PrairieSky will see a significant rise in revenues and will benefit from its low-risk/high-reward business model.

Investors who want to profit from future growth in the oil and gas industry should consider investing in this company for its ability to profit from risk taken by oil and gas companies and the potential for new long-term contracts on its newly acquired lands.

By being the biggest oil and gas royalty company in Canada, PrairieSky can continue to grow its cash pile, consolidate, then rinse and repeat. This simple business model is efficient and allows shareholders to profit from the oil and gas sector and receive and a hefty safe and stable dividend.

Dividend Policy

Investors who seek stable and safe dividends should take a look at PrairieSky's dividend policy.

The company expects to generate significant cash flow in the years to come and therefore, expects to continuously increase its dividend (currently 0.72$ or 3%). Moreover, PrairieSky's low-risk business model paired with no debt and significant free cash flow makes this one of the safest dividends in the oil and gas industry.

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(Source: PrairieSky Royalty Corporate Presentation)

Investment thesis

After a rough 2015 for the oil and gas industry, 2016 is looking more promising as commodity prices have surged and production has slowed. PrairieSky's low-risk/high-reward, no-debt business model offers a compelling investment opportunity for investors who seek to profit from an increase in oil and gas prices without wanting to take the risk of investing in exploration companies.

The well-established producers that have contracts to explore PrairieSky's lands have rock-solid balance sheets and therefore, minimize the risk of default, securing future cash flows.

Lastly, PrairieSky's ability to secure safe and long-term contracts on its lands, coupled with the latest land acquisition, should play of well in the long term and should help generate significant free cash flow.

Disclosure: I am/we are long PREKF.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.