Energy investments are plentiful; finding oil investments can be difficult. The independent exploration and production company's typically have natural gas as a large portion or majority of production. Oil production in the U.S. is on the rise with high oil prices spurring the technological advancement of new horizontal drilling techniques. Yet for the investor, pure oil exposure is difficult to locate. Northern Oil and Gas (NOG) is a non-operator focused only on the Bakken oil resource. Northern Oil reported fourth quarter and full year 2011 results.
With 93% of production as oil, Northern Oil has the right asset base. Hyper-growth continued with 2011 production more than doubling year over year. Proved reserves almost tripled increasing by 198% in one year. The present value PV10 of proved reserves increased by 273% to $1.1 billion compared to Northern Oil's market cap of $1.5 billion. Management expects 2012 production to double again from 2011.
Robust oil prices drive high internal rates of return on drilling. As a non-operator with only working interests in drilling performed by other capable operators, overhead is low and operation risk small with management focused on purchasing acreage in the path of development. The story is simple. Many years of rapid high return growth lies straight ahead.
Northern Oil is well capitalized with little financial leverage while operational leverage to the oil price is substantial. The cash hoard was burned through in the 2011 production ramp up but with production now over 10 MBoe/day cash flow will fund the majority of 2012 drilling capex and land purchases. The shortfall will be funded by bank borrowings from the new borrowing facility with the size of the shortfall greatly dependent upon the 2012 oil price.
The Statoil (STO) purchase of Brigham last year shows the potential value of quality Bakken acreage. One key land value component is time value, and Northern Oil is investing heavily in drilling with a 2012 drilling budget of $325 million.
The non-operator model has advantages such as lower overhead and less operational risk in the field. The disadvantage is loss of control over the timing of operational activity. Consequently, management has shied away from giving production guidance this year. In March of 2011, the company gave full year production guidance of 6500 to 7100 BOEs. Even with higher than expected capex Northern Oil's 2011 full year production only amounted to 5375 BOE/day.
As the year progressed, the guidance was ignored. The 21% miss from the guidance midpoint can be explained by poor weather early in 2011 and increasing amounts of capex 'behind the pipe' drilled but not yet producing. With fourth quarter 2011 results being reported, large Bakken operators Continental Resources (CLR) and Whiting Petroleum (WLL) saw their stock prices move higher on their reported results and small player Kodiak Oil and Gas (KOG) was sold off.
Last year saw a circus occur around the company. Two short-selling blogs enjoyed wrestling in slop with the company over issues which are irrelevant but look bad. The company changed public auditors over the fiasco, and the wife CEO Micheal Reger was involved with immaterial transactions. Also, Mr. Reger kept busy with some illegal hunting. Adult supervision has arrived as Northern Oil has added Deloitte & Touche as auditors, added two independent directors, general counsel and an industry veteran as CFO.
All investments have warts, and the investor must decide what warts with which to live. Dismissing Northern Oil would be easy. However, Mr. Reger and President Ryan Gilbertson did build the company with their idea. The investor who expects oil prices will remain robust is returned to the original thought of finding scarce quality oil investments. Bakken development is in its infancy as the granddaddy of oil shale development. Northern Oil is a simple, though perhaps not the most obvious, option.
Disclosure: I am long NOG.