Making Short-Term Profits In Oil Shale Stocks - Part 2

Includes: CLR, KOG, NOG, OAS, SN
by: Atticvs Research

Part 1 of this report reviewed the favourable background that is in place for making good profits on carefully chosen oil shale stocks between now and early 2013, looking specifically at Bonanza Creek (NYSE:BCEI) and Carrizo (NASDAQ:CRZO). This second half of the report assesses the prospects for shareholders of four additional companies; Kodiak (NYSE:KOG), Northern (NYSEMKT:NOG), Oasis (NYSE:OAS) and Sanchez Energy (NYSE:SN).

Kodiak (KOG)

Kodiak 2012 2013 2014
Sales, millions $458 $829 $1,100
LOE, Taxes, Depletion % of Sales 47% 47% 46%
Earnings per Share $0.45 $0.74 $1.10
Capital Expenditure, millions $650 $800 $900
Net Debt, millions $1,020 $1,315 $1,510
Debt/Equity % 106% 114% 105%
Boed, average 20,000 36,000 47,500
Boed, exit rate 27,000 42,000 53,000

As Kodiak features regularly in articles by Seeking Alpha authors, we can assume that reader familiarity is high for this well-run company. As such, I will refrain from repeating the basics. Because the 2014 figures in this exercise are an extension of 2013 analysts' assumptions - including using the same underlying oil price - it may be that 2014 numbers are conservative, especially if Bakken differentials improve versus WTI as some predict.

Either way it's clear that in early 2013 KOG's stock, currently trading at $9.80, should be a value play on a forward earnings basis. As a reference point, its existing consensus analyst earnings estimates are: Q3'12 $0.11, Q4'12 $0.16, Q1'13 $0.16, Q2'13 $0.18, Q3'13 $0.20, Q4'14 $0.22. A continuation of this trend implies EPS of about $1.10 for 2014, consistent with the numbers used in this article.

Kodiak may have an eye towards making further acquisitions, as recently suggested by Michael Filloon, a Seeking Alpha author who has done a lot of good work in the oil shale space (scroll down to comment dated September 29, here). With this in mind, and considering its high balance sheet borrowings, Kodiak is likely do a share offering in the next several months, perhaps in tandem with an acquisition. Frequently such transactions depress the stock price but, given Kodiak's good operating performance, I'd hazard that any acquisition will be accretive to shareholders and the shares should continue to do well.

Northern (NOG)

Northern 2012 2013 2014
Sales, millions $303 $429 $580
LOE, Taxes, Depletion % of Sales 53% 52% 51%
Earnings per Share $1.02 $1.45 $2.20
Capital Expenditure, millions $405 $500 $550
Net Debt, millions $290 $485 $620
Debt/Equity % 52% 75% 79%
Boed, average 11,000 15,500 21,000
Boed, exit rate 13,000 18,000 24,000

During the current year Northern is boosting its drilling program by upping capital expenditures to over $400 million. A substantial part of the benefits of this will flow through to earnings in 2013. By edging capex higher again in both 2013 and 2014 the company should be able to generate healthy earnings growth for both years. The projections for 2014 in the above table assume that oil prices will remain unchanged from 2013. However, as with Kodiak, Northern will benefit further in 2014 if Bakken differentials versus WTI come down. Additionally, the 2014 data assumes that total cost of production (LOE, taxes, depletion) will only improve from 2013 levels by 1%, not a big ask. Suffice to say that Northern's 2014 EPS of $2.20 should be attainable without too much of a stretch.

Northern stock is currently trading at $16.20. In early 2013, based on 2014 EPS of $2.20, that equates to a forward p/e ratio of 7.3.

Oasis (OAS)

Oasis 2012 2013 2014
Sales, millions $656 $979 $1,300
LOE, Taxes, Depletion % of Sales 51% 50% 50%
Earnings per Share $1.46 $2.34 $3.15
Capital Expenditure, millions $(910+120) $1,000 $1,100
Net Debt, millions $1,010 $1,430 $1,740
Debt/Equity % 131% 145% 136%
Boed, average 21,500 32,000 43,000
Boed, exit rate 24,000 40,000 46,000

Oasis is predominantly a Bakken driller and, like Kodiak and Northern above, its 2014 estimates do not incorporate any assumed improvement in differentials versus WTI. In either case - better differentials or not - OAS should have 2014 EPS above $3.00 per share, possibly a fair amount higher with better differentials. An ongoing theme to watch with Oasis is the level of its borrowings. Even a small increase in capex from 2012 to 2014 would leave the company with a high debt/equity ratio during the next two years.

The shares, now $30.40, would be on a next year p/e of 9.6 in early 2013 using 2014 EPS of $3.15. That leaves upside potential but, considering the projected high level of debt, that upside may be capped unless it can be demonstrated that earnings should be even stronger in 2014 and/or that better inroads will be made into reducing the debt.

Sanchez (SN)

Sanchez 2012 2013 2014
Sales, millions $59 $211 $425
LOE, Taxes, Depletion % of Sales 51% 47% 45%
Earnings per Share $0.30 $1.41 $3.00
Capital Expenditure, millions $250 $350 $400
Net Debt, millions $35 $260 $405
Debt/Equity % 9% 62% 77%
Boed, average 2,000 7,200 14,500
Boed, exit rate 4,500 11,000 18,000

Sanchez is a company with great potential. It is almost a pure-play Eagle Ford oil company (87% oil) from three separate contiguous blocks in the oil zone totaling 95,000 acres containing potentially 1,200 drilling locations. Also, it has 82,000 net acres in Bakken/Three Forks earmarked for future development. At the 2012 drilling rate of 25 wells, the 1,200 Eagle Ford locations equate to 48 years inventory.

Having spent less than $50 million in capex during the first 6 months of 2012 the company announced on October 1 that it is now accelerating its drilling. During the 18 months between 1 July 2012, and 31 December 2013, Sanchez expects to spend a total of $500 million on drilling. Together with $35 million for infrastructure and seismic, this amounts to almost $600 million spread over 2012 and 2013. Between the two years the estimated split is $250m in 2012 and $350m in 2013. Further details are available via the October Corporate Presentation on the company's Investor Relations web page.

Analysts are forecasting strong sales and EPS growth in 2013 but, given the accelerated capex programs announced this month, the analysts 2013 sales figure look light. Most probably their projections for 2013 do not fully reflect the just-announced accelerated drilling program. Note that Sanchez's guidance for oil production in 2012, full year and exit rate, remains unchanged since April, some 5 months before it upped its drilling activity. In practice, sales in 2013 may be above $250 million and from there reaching $425 million in 2014 would be easier to achieve. The 2014 outline P&L numbers above incorporate a small reduction in total production costs (LOE, taxes, depletion) reflecting normal volume and efficiency gains but these are offset by higher SGA and funding costs - ultimately leaving the net income % flat with 2013 i.e. maintaining reasonableness.

Currently debt-free and cash positive, the company should end 2012 with small borrowings, about $35 million, rising to still reasonable rates of 62% and 77% of shareholders' funds at year-end 2013 and 2014.

Sanchez's stock has a mean analyst rating of 1.4 with a target of $29.22. The latest broker update came from Canaccord in September with a $38 target. Currently the stock is trading at $19.50 and, in early 2013, EPS of $3.00 for 2014 would put the shares on a next year p/e of 6.5. Given the company's combination of [A] attractive multi-year drilling inventory, [B] moderate debt levels and [C] cheap valuation, the stock is likely to run hard over the coming months as the story becomes better known.


Share price $23.70 $26.50 $9.80 $16.20 $30.40 $19.50
P/e ratio 2013 9.2 6.7 13.3 11.2 13.1 13.9
P/e ratio 2014 7.0 5.6 8.9 7.3 9.6 6.5
Debt/Equity 2012 26% 135% 106% 52% 131% 9%
Debt/Equity 2013 45% 128% 114% 75% 145% 62%
Debt/Equity 2014 59% 111% 105% 79% 136% 77%
*Drill Invtry 800 1,000 1,600 1,600 1,400 1,200
Invtry Years 22 22 30 36 15 48

From this list Bonanza Creek and Sanchez Energy are the top two choices with Northern filling the bronze medal position. Bonanza and Sanchez are both cheap on a forward earnings basis and currently are largely debt-free, which enables them to devote substantial capital towards drilling in the coming years. However, between these two Sanchez-- with its cheaper valuation and superior drilling inventory-- appears to have the best overall potential for investors.

*Drilling location data is somewhat subjective. In all cases, from the best to the worst, the company is likely to have additional drilling options from tighter spacing and exploring further benches. Bonanza and Carrizo's inventory numbers were explained already above. For the Bakken players - KOG, NOG and OAS - recent data from Continental (NYSE:CLR) and others are pointing to drilling locations that may be significantly greater than those currently being stated publicly by the companies. A very good article on this topic was posted on Seeking Alpha by Richard Zeits on October 17. For these reasons I have doubled the numbers recently used in corporate presentations by KOG and NOG. I

n the case of Oasis, the company recently discussed having identified additional inventory possibilities that are about 3 times those recently used in its corporate presentations and I have used the higher number here. For SN I have used its already-known tighter spacing data but have ignored the possibility of additional locations that may come from Buda, Pearsall and Austin chalk benches as well as the company's 82,000 net acres in the Three Forks/Bakken.

I have attempted here to present a fair and balanced view with the overall aim of helping investors find opportunities and, hopefully, make profits. As with many exercises that cover several companies, some errors may unknowingly have crept in. Readers shouldn't hesitate to point out items that they consider to require material correction. Please remember that forward estimates are ball-park and not an exact science.

Lastly, this note is not intended as a buy recommendation on the stocks mentioned. Instead, it is an introduction. As such, investors should carry out further research before considering buying any of the stocks covered.

Disclosure: I am long BCEI, CRZO, KOG, NOG, SN. 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.