Penn West Energy Trust: An Underappreciated Gem

Penn West (PWE) is North America's largest oil and gas royalty trust, and belongs in a group of Canadian companies ("Canroys") that pay a large percentage of their cash flow in the form of dividends to their "shareholders" (who are actually called unitholders). Although various Canroys are active in different businesses, PWE is an upstream oil and gas company with just a little bit more oil operations than gas.I believe that PWE offers compelling value that is largely UNappreciated by investors.

This opinion is primarily based on my belief that 2-digit oil prices (ie, oil under $100) and single-digit natural gas prices (ie, nat gas under $10/MCF) are largely behind us (I do not mean that oil and gas cannot temporarily go below those thresholds; what I mean is that in my opinion, it is unlikely that going forward, on a quarterly basis, oil will average under $100 or nat gas will average under $10/MCF).

If you do not agree with the above opinion — i.e., if you believe oil is very likely to go substantially under $100 and stay there, or nat gas substantially under $10 and stay there — then PWE may be an OK investment but not much more.

Because the first thing that people notice is the yield, I would like to address it first. The yield is mind-blowing at about 13%. What is even better is that (a) it is paid monthly (a bit over 1% per month), and (b) to the best of my understanding, it qualifies for 15% tax-advantaged treatment (consult with your tax advisor; also note that your broker will deduct 15% from each dividend payment which you should be able to claim as a credit on your US taxes; finally, if Democrats win the White House this year, this tax advantage may disappear).

A question that must ALWAYS be asked about a company's dividend—especially when the yield is 13%--is whether it is likely to be sustainable because the cutting of a Canroy's dividend usually kills the stock price. PWE announced Q1 earnings yesterday, and the news was very good. "Funds flow," which is the source of money from which dividends are paid,was $632 million, or $1.76 per unit. Since PWE pays 34 cents in dividend per month (and has done so for about 2 years), $1.02 of the $1.76 was paid as dividends. A simple math calculation shows that the payout ratio is 58%. In the Canroy business, a payout ratio of less than 70% is considered good, and anything under 60% is excellent. At 58%, the payout ratio is quite low, which is very good.

But as soon as one calculates the current quarter's payout ratio, one must also determine whether the payout ratio will remain low, or whether decreased future funds flow might push the payout ratio up and cause a cutting of the dividend. The news here is also very good. The company stated that assuming oil at $107 and nat gas at $8.50 (while nat gas is at around $11 right now), funds flow in 2008 should be between $2.7 to $2.9 billion — in other words, funds flow in the rest of 2008 should be higher than in the first quarter, and I calculate that by the end of the year, assuming oil at $107 and gas at $8.50 (and I think gas will average at least $10/MCF in 2008), payout ratio should be under 50%.

So if oil and gas prices hold up at the thresholds above, the dividend is extremely secure. Since distributions will eat up about $1.3 billion, and the capex program will eat up under a billion of the funds flow, there should be several hundred million dollars left over this year and the company (correctly) plans to use that money to retire debt.

If you believe that oil and gas prices will hold up, you have here a company that will pay you a monthly dividend at an annual rate of 13% with an extremely low chance of missing the dividend. A 13% dividend yield while money market funds are paying 2-3% in this low-interest-rate environment is nothing to sneeze at—especially as many companies in other industries are cutting or eliminating dividends entirely. Also, since the dividend is pretty secure, downside on the stock price is pretty limited.

But what about upside? The upside is quite good too because as PWE's hedges come off in 2008, PWE's funds flow will increase substantially (I would estimate by at least half a billion) in 2009—EVEN IF OIL AND GAS PRICES DO NOT GO UP from where they are today. Of course, if oil and gas prices DO go up, then funds flow will increase exponentially (because much of the extra money received for the oil and gas goes to the bottom line).

In addition, I think PWE's assumption of nat gas at $8.50 is pretty conservative. If nat gas averages closer to $10/MCF this year (as I think it will), I would guess that would add several hundred million dollars to funds flow this year — causing funds flow in 2008 to approach, if not breach, $3 billion.

What are the risks?

• First and foremost, oil and gas prices. If they go down substantially, that would hurt the stock price.
• Second, just as is true in the US, the Canadian government can always roll out new tax initiatives that would hurt all oil and gas producers. In fact, such adverse tax legislation has been passed in Canada but is well known and baked into the stock price, though new initiatives obviously would hurt the stock.
• Third, this company has a fair bit of debt, so credit issues could conceivably hurt it, although with high oil and gas prices, PWE's ability to service (and retire) its debt is growing by leaps and bounds.

In conclusion, as investors discover this underappreciated asset, and realize that the 13% dividend (at today's stock price of around $31) is extremely secure, I would expect that the stock price will increase to bring the yield closer to 10%, if not less. This would yield a total return of approximately 40% this year, with steady monthly income and minimal downside risk. There are very few companies offering this sort of yield with minimal downside risk and a reasonably likely total return of 30-40% this year and probably more next year.

Disclosure: As you may have guessed, I am long PWE.

Comments

[thesooth]

ME TOO!

[GMiki]

I have a little and Zapata George, the oil and gas analyst, likes it.

[rkay48]

CHeck the tax situation in Canada. PWE and most Canroys took a bit hit a year and a half ago when Canada passed a law removing much of the advantageous tax rate for Canroys. The stocks have a couple of years before the new taxes kick in, so it is not all clear that these yields will be sustainable. There are many other ways to invest in increasing oil/gas prices, so don't limit yourself to Canroys....

[Jack Yetiv]

Rkay,

As I mentioned in the article, the adverse tax consequences of the Halloween tax to which you refer (passed Oct. 31, 2006) have been well-appreciated by the market and incorporated into the stock price of all the Canroys.

What is NOT well appreciated is that the Canroys have collected "tax pools" that will shield funds flow AFTER 2011. In the case of PWE, the tax pools are expected to shield its dividends from tax for about 3 years--til about 2014.

Since that is 6 years away, and since I believe oil will be over $200/barrell (and gas over $15/MCF) by then, I am not too concerned about it.

However, I completely agree that there are a lot of oils out there that offer compelling upside potential. I have begun my due diligence on them (eg, CHK, COG, EOG, etc) and will invest there once I figure out which one I like the best. I am toying with the idea of buying a large position in 2010 LEAPS that, if oil and gas go where I think they will, could return 1000% or more in 12-18 months. But given the risk, I really need to study which one I like best.

However, PWE is a bit different from those other oils in that it pays an outrageous dividend (and on a monthyly basis!) that simply CANNOT be found ANYWHERE else with this level of safety, in my humble opinion. To some people, payment of a monthly dividend is a very important consideration.

Also, I believe that paying 15% in income taxes is also a major advantage, although that .

Having said all that, I believe some of the other oils have a greater upside than PWE, but heck, many people would think that a 30% almost guaranteed return in the next 12 months is a pretty compelling value.

Jack

[blanco-dee]

I began investing in the pre-cursor of this company over 8 years ago, as it was NCE Petrofund, later becoming Petrofund, and merging a couple years ago as PrimeWest, spilling back an incredible amount of $ per share as a result of the merger. I've spent to much time in the San Juan Basin in New Mexico, where nat gas prices ran at 2-3 bucks an mcf in the late 90's, and conflict of interest issues kept me from investing in the domestic plays. It was just osmosis, all my neighbors were drillers, and I dealt with lease development issues every day. At any rate, it turned out to be a triple when I sold out at the end of 2006, and I bought back in in 2007 - but when the Canadian Finance minister, Jim Flaherty announced that Canadian Trusts would be no longer after 2010 (the announcement was on Haloween 2006), the entire Canroy sector/group lost 30 billion of market capitalization in a single day.

Alberta wants to raise provincial taxes on these Canroy E&P companies, and this is one factor which has held them back. I consider them all takeover candidates by the majors, and even if they aren't bought outright, they will probabaly find some "master limited partnership" structure to morph into another suitable investment for high yield investors.

Just the fact that there are so few comments to this article/blog is an indication of how few investors really follow these. When I consider how many mortgage payments I've made off the dividends its no wonder I just can't stay away.

Some investors just can't invest in the great domestic nat gas plays - I spend too much time promoting responsible energy development, I just can't buy Anadarko,Apache,BP,COP... - and many other in the alphabet that have done incredibly well. As soon as the masses discover these canroys they'll just grow quicker in share price.

Enjoy the ride.

[HT5]

I got in just a couple of months before the Halloween Tax announcement. After it dropped 30% market price on OCT 31, 2006 and further in the following months, I decided to wait it out and hope it regained. Eventually some of the Canroys actually did recovered market price. Meanwhile I've been drawing the dividend like clockwork every month. I'm still down 11% on the market price, so hope you are correct that we may see an up move in the price. Having a portion of my portfolio gaining a 13% dividend is better than having the money in a 3% money market. Sometimes I get the urge to sell it to free up some money for more aggressive investments. Your article gives me hope to make a decent profit if the price ticks upwards by chance. Guess I'll have to selll some of my slow moving stock like TM or CAT and buy all the V and aapl that I can get my hands on.

thanks, HT

[jjason]

Jack, This is a good article on PWE. And the comments written by blanco are also good. Thanks.

I bought PWE just after the crash and I am pleased with the company.

The tax pools were mentioned on PWE's conference call yesterday. I only listened and the few questions were well answered. Also, the questions were from unitholders. Besides the nice dividend yield, the company is well managed in my opinion.

Long position.

[steve Ward]

Jack, Canadian Safe Harbour Laws limit how much capital the Canroys can raise to expand before the 2011 deadline and every Canroy has a different limit.

By chance do you know the PWE limit and how much more can they go for aquisitions??

[Jack Yetiv]

I was absolutely flabbergasted that at the conference call, only 3 questions were asked, all by private investors. Not a single one by an analyst.

I could understand this if this was some small company trading in the pink sheets, but this is a company with an enterprise value of $15 billion paying a 13% dividend. What kind of risky bond would one have to buy to just get 10% in this market?

What this tells me is that IF some respected analyst from a respected shop finally wakes up to this gem, it has a decent potential of moving well. And as we all know, the analysts are a bit like lemmings--once one of them picks it up, others will follow.

This is one of the worst "misprices" (IMHO) in the market today.

Jack

[Ames Tiedeman]

PWE and HTE are both gems.

[User 51324]

Jack, Bruce Berkowitch of the Fairholme fund had this as the number 2 holding last year but has continued to sell down. In his past interviews he had mentioned the all advantages you discuss in this post, yet now he owns much less of it. Any Ideas why is is negative?
Thanks

[User 35132]

THE MONTHLY DIVS. ARE GREAT. I follow this company very closely. I am retired and use the Divs. for treats and perks for grand-kids. Thanks Jack for the info. Please keep us informed.

[steve Ward]

Based on lack of institutional interest and Jack's comments on the conference call; holding PWE is very contrarian which is good for the investor in the long run or something is up and has spooked the pros in Canada and I don't know which one it is.

[Jack Yetiv]

To User,

Not a clue why Berkowitch would sell this stock NOW; prior to this latest earnings report, he might have sold because there were doubts about (1) how much PWE would benefit from higher O & G prices given their hedges, (2) how much interest would cost PWE given the high debt, (3) whether PWE would be able to digest the two large acquisitions (Vault and Canetic) accretively, and (4) most importantly, whether O & G prices will slide back substantially (not just a small correction like we had 2 weeks ago).

If you want to see some of these concerns in print, look for David Bui's SA article from about 3 weeks ago.

I disagreed with David and I bought into the company before it announced earnings but decided to write the article once the above concerns were put to rest.

I believe ALL of these concerns HAVE been put to rest, and I still cannot believe that not a single analyst has issued a single upgrade on the stock.

Jack

[Jack Yetiv]

To Mr. Tiedeman,

I don't like HTE anymore. I sold out my large position in it about two months ago at about $25 after making about 15% on it in 6 months. I sold because I thought their last earnings announcement (was it in March?) was terrible, and exposed a major problem on the refinery side.

Crack spreads were terrible, and unfortunately, I believe they will continue to underperform the upstream side of the business and act as an overall brake on margins.

I think PWE's potential return going forward is far greater than HTE's.

Jack

[Whisper On The Wind]

PWE and HTE are both a balance to my (soon to recover) financials, along with a little real estate investment stock and some shipping. I'm happy.

[investorslive]

PWE does look good I will cover it later on on my scan at www.investorslive.com/.../

[iranewlander]

what are the implications of a stronger dollar and/or increasing interest rates?

[Jack Yetiv]

Implications of stronger dollar, interest rates--VERY complicated question. But to go to the punchline first--in my opinion, probably not much impact, given the amount of movement I expect on either the dollar or interest rates over the next year. Beyond that, it's senseless to try to make predictions.

The currency question is complicated because you must look at the US dollar versus other currencies when selling oil abroad, but because the company is Canadian, you must also look at the exchange rate (because dividends are declared in Canadian dollars but paid to Americans is US dollars at the prevailing exchange rate on the day of dividend payment).

BUT, over the next year, I do NOT believe the US dollar will either drop or strenthen that much against foreign currencies (it's awfully low already, and I think as we go to increasing domestic interest rates, that will firm up the dollar).

I feel the same way regarding the US versus Canadian dollar, though for different reasons.

However, if you were of the opinion that the dollar would strengthen a lot against foreign currencies, some people would argue that would deflate oil prices, and that would hurt PWE.

As to interest rates, I also don't expect much movement there for at least the next 6 months. I believe the Fed will stand pat at the next meeting, and probably the one after that. Then it may begin a slow rise, but 25 to 50 basis points is not going to make a big difference.

Another reason that interest rates won't make a big difference to PWE this year is that PWE just refi'ed $475 million of its floating rate debt, and most of the rest of its debt is fixed for at least a year--maybe longer, from memory. Thus, PWE is only very lightly exposed to floating interest rates--even if interest rates were going to increase, which I don't think they will in 2008.

In addition, PWE is going to make an excess $100 million per quarter this year (assuming WTI at $107 and AECO gas at $8.50, which are reasonable, if not conservative, assumptions) and they stated on the conf call they will use that money to retire debt.

So my guess is that by the end of the year, they will have no floating debt and 1/2 a billion overall less debt. Not only will that strengthen PWE's balance sheet, but the interest saved on $500 million debt should amount to about $30 million per year which will be added to funds flow.

Unless oil and gas crater, or some terrible disaster occurs, I can almost guarantee a 30% return on this company in the next year, and 50% would not surprise me in the least.

How many other stocks that have almost NO downside risk can one say that about?

Jack

[Rafael Grillo]

My only regret is not having purchased more Canetic Resources (now absorbed by PWE) a year and a half ago when I got to know about Canroys -thanks to Jim Cramer by the way; one of the few things I could thank him for-. Besides the dividend, that just for itself justifies the investment, the run in oil has meant a decent return in share price as well. I plan to continue holding on my PWE position. I think your analysis is right on.

[THofler]

Good info here by all. I made a lot of money on Canetic Resources in the first 10 months of 2007 before selling. It was fascinating to see the hugely beneficial effect of the falling US dollar vs. the Canadian dollar. I don't think I'd want to own one of these during a US dollar appreciation.

[jjason]

Jack, In a way, I am happy that there were no analysts on the PWE conference call.

As I listen to more and more conference calls, I tend to not want analysts to ask questions. Here is what I have discovered:

1. If an analyst has left the conversation...He will ask a question that had already been answered.
2. If an analyst doesn't like the answer (or doesn't understand the answer), he will ask the same question three times.
3. Then there is uh the questions you know I mean that uh in other words. Drives me nuts when they can't speak for more than two sentences without using uh.

I get more clear and concise information by reading the quarterly and annual reports.

[jokingme]

Jack,
Thanks for this great write-up and discussion. I look forward to reading your next one almost as much as my monthly dividend check from PWE.

[surfside sue]

My ROTH account broker (Vanguard) dumps all my various fund dividends into their MMA, so I have a growing account balance looking for a place with better yields.

CanRoys look like a great solution, and I really appreciate the insight offered by the comments above, but I can't quite get a handle on the tax treatment. Looking at PWE today: Yield 4.08 (13%), if it makes monthly payouts, my account should see $34 (for 100sh) each month. My ROTH account is tax free.

Wil I see $34 each month, or something less, and if something less, where is the balance and how do I recover??

Thanks

Sue :-)

[Dave M.]

Jack said.."Unless oil and gas crater, or some terrible disaster occurs, I can almost guarantee a 30% return on this company in the next year, and 50% would not surprise me in the least. How many other stocks that have almost NO downside risk can one say that about? "

Not so fast there. Never underestimate the ability of a socialist government to seize corporate wealth. PWE has a LOT of downside risk. Both by new government taxes and by the ever-so-volatile natural gas prices.

[User 171371]

Owned Petrofund,PWE,AAV,PDS and PVX.Have sold all except PVX because of on statement made by many Canadian Politicians,"anyt... that comes out of the ground belongs to all the Canadian people".

Risk vs reward

[User 89076]

Comment is valid, but U.S. Congress may take action cutting tax breaks for U.S. Corporations and partnerships soon. So more energy investors may look to Canada. Also consider factor that Liberals may come into power soon and revise income trust tax law which could result in an immediate 20% increase in their stock price.


On May 09 01:16 PM User 171371 wrote:

> Owned Petrofund,PWE,AAV,PDS and PVX.Have sold all except PVX because
> of on statement made by many Canadian Politicians,"anyt... that
> comes out of the ground belongs to all the Canadian people".
>
> Risk vs reward

[J Mueller]

I agree with you Jack. The Canroys are a great deal right now. I'm long PWE and AAV.

Some numbers for you. If energy prices stay the same as they are right now I show that PWE Funds from operations for 2008 will be around $3.2 billion dollars. That number small compared to 2009 when most of the hedges reset. 2009 funds from operations shows up at mind numbing $4.5 billion dollars. I put in an increase of production of 5%.

Yeah, it's safe to say the divi will be headed higher in the future. I can't believe some of the majors haven't taken a closer look at these.

Also, you get the exploration infrastructure for PWE for free.

[J Mueller]

Sue, you get smoked on the Canadian 15% tax that they take out for all divi's issued to foreigners. So, back the yield down 15%. However, it's still higher than PBT yield. Also, with energy prices at these levels it's safe to say that PWE will be increasing the divi.

I own AAV as well.

[Mmarrkk]

And you can get that 15% back when you file your taxes as a foreign tax credit.

[J Mueller]

No, not on the stuff in her 401k/Roth/IRA. I don't know, is there a tax guy out there who's figured out to get the credit when you draw the money out. Well, the Roth stuff has already been taxed and it won't get taxed on the way out. The Credit wouldn't do that any good.

[ddp]

I too am long on PWE, and the prospects are quite interesting: the dividend payment has been steady as has been its growth. Only the Canadian Government can sink this ship. I look for $40 in the price.

[Dave M.]

PWE is still below it's pre-"Halloween massacre" price. Not a good sign. Better Canroys are above their respective massacre price (Crescent Point, Baytex, Freehold, et al).

In addition, another big risk is much stricter environmental policy on drilling and oil sands development. Socialists are in bed with the environmentalists, dontcha know.

[Teilhard]

I agree with you analysis....Only real problem is the Traders on Wallstreet getting greedly and screwing things up!

[carloz678]

Jack, I've owned PWE since right after the Holloween crash and just in the last 2 days am not underwater. I've been frustrated by the fact that PWE does not correlate to the price of oil. We see these predictions of 150 to 200 oil I would remind everyone that by past performance PWE will appreciate at a fraction of any oil gains. It seems that the dividend is like a pherome to draw unsuspecting investors capital, I know it was for me. I would suggest that anyone thinking about putting money into PWE do a comparrison chart with some of the dynamic American oil companys whose performance correlates more closely with the price of oil.
Examples like SGY, ARD are up 100% in the last year vs. flat for PWE. Hell even Canadian ECA is up 50% and if you go to 2 years PWE is down over 20%. So be careful and remember the Thornburg fiasco.
Carloz678

[J Mueller]

I cannot understand why PWE isn't getting more "LUV". BTE, by the way, has much more Heavy Oil, not the Sweet Light Crude everybody has.

They did, however, do the magic thing. They raised the divi. PWE and AAV bought other trust when OIL/NG was on the skids and have yet to get the credit. Oil/NG could go back to $80/$7 and PWE could still make the divi payments.

Like I said, if energy stays the same, in 2009 when the hedges fall off, PWE could double the dividend and still have an extra $150 million to pay down debt.

Yeah, i've been layering a short position of USO for now. Still think NG has more upside and I will probably short that if NG get's above $13.50.

I don't believe we are getting any credit for PWE future earnings. They are massive. Now, if we could only get them to release the financial statements for Q1 2008. My numbers were off by around 5% and I want to know what I messed up.

[Jack Yetiv]

Some responses.

First, there is ABSOLUTELY no question that PWE's stock price has FAR underperformed its fundamentals and the price of oil. But I believe that at some point, that perspective will change. And when it does, I think it will light a fire under the stock.

Three cases in point: DRYS, CHK and CSIQ. Up until a month or two ago, DRYS was trading at a ridiculous PE of 5, and there were all sorts of inane excuses given as to why that was--none of which made sense. But then, somebody or something lit a fire under this stock and it closed today at $92. 50%+ percent return in about 2 months, and its PE is still less than 10.

CHK also underperformed until about 2 months ago, and has gone up, what, 30% or more since?

Take CSIQ, which I recommended at $18.56 on these pages about 3 months ago. It was the lowest PE stock among all the solars, trading at a PE of 10, while the others were trading at PE's of 15 to 100. Why was that? Hell, I dunno, but it closed at $32.40 today.

My current favorite solar stock is TSL, trading at a PE of 12 (now the lowest of the solars) even though its revenues will almost triple this year (and its earnings will more than double from about $1.50 to $3.39). It hasn't moved yet since I recently recommended it, but let's see what it does.

PWE to me is in the same category of irrational pricing and I think there is a very good chance its fuse will get lit just like DRYS, CSIQ and others. By the way, note that PWE was buyable at about $30 when my article appeared this Mon. It closed at $32.30 today, a new high for PWE in the past several months. I would not be shocked if this were to be a breakout to $35-37. Look at what AAV and BTE have done over the past few months after a galvanizing earnings report.

Keep in mind that to get a 30% return on PWE in the next year, all that PWE has to go up is 17% because you are getting a 13% dividend. And it has gone up almost 7% since I recommended it on Mon (I bought calls on Mon or Tues when the stock dropped to about $29.70).

The bottom is that I cannot explain irrational investor behavior. All I can do is look for stocks that have much more upside than downside and to me, PWE is close to the top of that list.

Couple of other comments in the next post.

Jack

[Jack Yetiv]

PWE will not raise the dividend this year, and they shouldn't. They are right to put excess cash to buff their balance sheet. So if you are buying with that expectation, I think you will be disappointed this year.

I do think they will raise next year, but nothing screaming, unless the stock has doubled and they feel they need to improve the yield. At 13%, they DO NOT need to improve the yield. They need the market to appreciate them.

Dave M quoted me first, and then said:

Jack said.."Unless oil and gas crater, or some terrible disaster occurs, I can almost guarantee a 30% return on this company in the next year, and 50% would not surprise me in the least. How many other stocks that have almost NO downside risk can one say that about? "

DAVE'S RESPONSE: Not so fast there. Never underestimate the ability of a socialist government to seize corporate wealth. PWE has a LOT of downside risk. Both by new government taxes and by the ever-so-volatile natural gas prices.


Dave is absolutely correct. I did specifically point out in my article that govt regulation can kill any of the Canroys, just as it did on Oct. 31, 2006. Without making light of this possibility, let me say that I consider this somewhat unlikely because the Canadian govt is running budget SURPLUSES, not deficits, and because the SIFT taxation plan is ALREADY going to add billions to govt coffers.

Finally, many Canadians collect these dividends as well, and oil and gas is a very important industry in Canada. So I think the Canadian govt won't get too greedy.

Jack

[Dave M.]

Jack said.."PWE has to go up is 17% because you are getting a 13% dividend".

No, you have to take that 15% tax haircut off of the 13%, which makes it 11%. In a lot of cases, both IRA and taxable, you can not claim all of the 15% haircut as a foreign tax credit.

That's because, in taxable accounts, the IRS has income limit rules (domestic vs. foreign income) that severely hamper your usage of these foreign tax credits. Even though you can carry forward these tax credits for 10 years, if you keep holding PWE, you can never use them in the ensuing years until you sell PWE for an extended period of time. Bottom line is that the IRS makes life very hard for you to use these foreign tax credits.

[Jack Yetiv]

C'mon, Dave, what income or profit do YOU make that is tax-free?

Even tax-free accounts are not tax free--they are simply tax deferred until withdrawal, and if you do well at stock investing, your tax rate when you withdraw will be at the maximum rate (I know mine will be).

Of course, ALL my analyses, whether about PWE or any other stock, are PRE-tax because everyone has a different tax situation.

Having said all that, it is my understanding that I can claim as a CREDIT on my US tax return the 15% that is taken out of the dividend by my broker and in essence, be paid up.

Are you saying that is NOT correct? If so, can you tell me the source of that info?

Thanks, Jack

[Dave M.]

I didn't say anything about tax free. I said that the 13% yield is illusory for most people. With IRA accounts, that 15% haircut is gone forever and can NOT be claimed as a foreign tax credit. Ever. With taxable accounts, please re-read my above post.

[Jack Yetiv]

Dave, to repeat:

"Of course, ALL my analyses, whether about PWE or any other stock, are PRE-tax because everyone has a different tax situation. "

Furthermore, I doubt most people hold PWE in IRA accounts, but I certainly don't have that data.

I trade all my stocks and options in a taxable account because (a) I think taxes are going to be higher in the future than they are now, and (b) I don't ever expect my tax rate to drop below where it is right now.

Obviously, each person has a different tax situation. That is why ALL my articles speak about PRE-tax returns.

Jack

[J Mueller]

Hmm, time to take a look at AAV. I was reading their Mgmt. discussion for 2007 and stumbled upon a gem. Check out their hedging discussion. It says they purchased a collar. Well, upon further review, it appears they were bullish on Oil and instead bought back a hedge. They sold a $70 put and purchased a $105 call.

I will admit that was a bold, perhaps crazy, bet. But, it worked.

We'll see from their financials how this plays out.

[Dave M.]

Steve Ward said..."Jack, Canadian Safe Harbour Laws limit how much capital the Canroys can raise to expand before the 2011 deadline and every Canroy has a different limit.""

This factor brings up another huge risk for PWE shareholders. At any time, PWE can announce that they are converting back into a corporation and abandon the trust formation. The dividend will be slashed severely and the income investors will bail out quickly. Other Canroy trusts have already converted because it frees them from the capital constraints put on trusts until 2011.

[Jack Yetiv]

I disagree that the capital-raising limit is an issue. First, the limit is 20% of existing enterprise value (as I recall, please check), meaning $3 billion.

More importantly, if O & G prices remain above $107 and $8.50 (which seems more and more likely every day), PWE will generate an extra billion dollars in 2008 and 2009 ABOVE payment of dividend and ALL capex, making it extremely unlikely that they would need to raise capital.

Finally, PWE has announced they plan to remain a trust, and have eenough tax pools to protect income from taxation til 2014. Even if they were to convert, that is hardly the end of the world. One of the trusts recently converted (early) and its stock price is up 30% since the conversion as a function of O & G pricing. In others words, its conversion did not interfere with an increase in the stock price.

Jack

[Jack Yetiv]

To J Mueller.

Can you put a dollar value on the hedging that AAV did?

I have preferred PWE because the fact that it has a higher dividend allows the stock to appreciate 30% and STILL offer an attractice 10% dividend. AAV's dividend is not quite as good.

But if AAV can sell more of its gas at market prices, that would put AAV ahead of PWE in this environment.

Jack

[Jack Yetiv]

I subscribe to a email service called Canadian Edge, where the guy reviews the Canroys on a monthly basis. The latest issue came out yeterday. If you have substantial money in the Canroys (which I do), I would suggest subscribing.

This is what this month's issue said about PWE (note that the issue came into my email box after market close on Fri; if Roger Conrad's opinion is influential, I would not be surprised if PWE trades up to close to $33 on Mon):

"Penn West reported a solid gain in distributable cash flow despite a 58 percent increase in outstanding shares because of acquisitions. The trust’s payout ratio sank to 58 percent, as it boosted output to 201,800 barrels of oil equivalent (boe) per day. Operating costs were flat sequentially with the fourth quarter, and debt fell slightly to 1.44 times cash flow.

During the quarter, Penn West faced criticism from some investors that it had forgotten about shareholder value in its drive to gain scale. The results betray some rough spots in integrating recent acquisitions. Higher energy prices, however, are doing a lot to grease the wheels, and there’s considerably more upside, as well as downside protection. First quarter realized oil prices were just CAD88.77 per barrel for oil and CAD7.98 per thousand cubic feet for natural gas, some 25 percent below current spot prices.

Management has pledged to use any surplus to further cut debt. But Penn West continues to face pressure to perform in coming quarters. Fortunately, still trading for just 1.66 times book value and an increasingly protected yield of nearly 13 percent, it’s still trading at a sizeable discount to its peers that seems less and less justified. Penn West Energy Trust is a buy up to USD38 for those who don’t already own it."

Well, you heard it from me first earlier this week when PWE was at $30. Roger Conrad is saying the same thing with the stock at $32.30, and he believes it's a buy even at $38. I would strongly agree with him.

Jack

[J Mueller]

Jack, the 105 call was for 2,000. At todays prices of $125 the would be 125 -105 or 20 BOE. So 2,000 per day for 91 days = 182,000 BOE. 182,000 X $20 = $3,640,000 in additional revenue per quarter. That's like increasing their oil production 15%.

Well, AAV did decrease their divi on Oil/NG weakness last year. They said at the YE conf call that they would not be raising their divi and would put that any extra money to work on production. However, I don't believe they foresaw $11 plus NG and $125 oil.

They will have to do something to get their share price up as they are pretty cheap and would be an easy takeover target. I owned PWI before the takeout and would assume the rest of the Canroys are getting looked at. I remember Cramer bragging about BTE but it has much more Heavy Oil. I think AAV is a better play.

[Jack Yetiv]

According to a table from the 5-9 issue of Canadian Edge, AAV has a payout ratio of 72% versus 58% for PWE. In addition, AAV's debt-to- cash-flow ratio is a very high 2.85 versus a somewhat high 1.44 for PWE, although both metrics for AAV may be based on a quarter earlier than PWE's, which is based on this quarter's cash flow (this should be checked). Finally, PWE offers a better dividend yield, which will help the stock appreciate.

For my money, PWE is the better play, but I think all the upstream oil and gas companies (whether Canroys or otherwise) will do well with oil and gas prices where they are.

Jack

[Dave M.]

The proper way to analyze O&G Canroys is to look at RPU and PPU. Reserves per Unit and Production per unit. If they are growing on a YOY (year over year) basis, then you have a good candidate for purchase. If not, it is a big red flag. How's PWE doing in this important category?