Energy Buys — Sleeper and Scam?

by Travis Johnson, Stock Gumshoe | April 8, 2011 4:24 pm


This week, with oil prices again going crazy on Libya and with a continued interest in natural gas among investors, I thought I’d share a few thoughts on two energy stocks I’ve just purchased — one addition to an existing position, which I continue to really like as a “sleeper” gas and oil stock, and one new buy, which is ridiculously speculative and might turn out to be overhyped or a scam.

The sleeper is one you’ve seen me mention before: Dorchester Minerals (DMLP), which I profiled as the “Idea of the Month” in this space back in September[1] and started buying myself about a week later. This is essentially a gas and oil trust with massive land holdings that trades as a Master Limited Partnership — and I like to call them a “sleeper” because they make absolutely no effort to get any attention from investors (just check out their website — it’s even more amateurish and limited than Berkshire Hathaway[2] or Leucadia[3] … which is probably a good thing. I just increased my DMLP position by about 80%.

And the possible scam (that’s probably an exaggeration — “overhyped” may be a better word) is Manas Petroleum (MNAP), which I just bought in a small way — so obviously I don’t think it’s a complete scam, though I am cautious on this one and I might be wrong. Manas Petroleum is sort of like a prospect generator in energy — they buy up exploration blocks, mostly in somewhat iffy areas (where most of the oil seems to be, unfortunately), do initial geologic work and seismic data collection, try to put a good exploration package together and maybe even start drilling, and then farm the project out to a large operator who can develop it … with the goal of keeping a minority interest but not doing the most expensive part of the exploration and development themselves.

Unfortunately, they’re also one of the many small cap commodity stocks that has paid stock promoters to profile and publicize the company, and they’re tied in with a big investor who has a history of questionable and controversial investments in the Vancouver junior miners (including one real scam that I’ve heard of) and in InterOil, which is usually a red flag for me (on the flip side, they also count George Soros as an investor … which isn’t necessarily a green flag, but which is somewhat reassuring).

So let’s look at both of these — Dorchester first. I won’t give you the full rundown on the company because I think I did a decent job of that back in September[4], and there’s been precious little news since then. The latest distribution was smaller than what had previously been the trend, but as I noted then the payouts for this MLP are very variable — they don’t smooth their distributions, they pay out the required “most of cash flow” each quarter, whatever it might be, and they don’t issue long press releases explaining each distribution. You have to actually get in and read their SEC filings[5] if you want updated info on DMLP.

Their latest distribution was about 35 cents per share, for the fourth quarter — lower than the other distributions for 2010, primarily because of lower gas prices (they’re very levered to natural gas, though their oil reserves are also substantial). The finance websites will tell us that this means their annual distribution is $1.42 because they just multiply the last payout by 4, which would mean the yield is 4.9% on the current share price of just under $29. The actual distribution that investors would have received over the last 12 months is $1.68 for a trailing yield of about 5.8%. Neither of those tells us what the yield will be in the future — you can logically guess that it will probably be between those numbers, but there’s no particular basis for that, either. Dorchester is a passive royalty owner and junior net profits participant in oil and gas wells, so the distribution will depend on the pace of development of new wells on their properties and leaseholds, the decisions by the producers about how much to spend to develop new wells, and on oil and gas prices (mostly gas).

The price has come up a bit over the past six months, and over that time the stock has generally done worse than the “cleaner” natural gas trusts (cleaner in terms of understanding their assets, that is) like Hugoton (HGT) and Sabine (SBR) — but I continue to think that DMLP is more appealing than those more standard trusts, in part because they have so much more growth potential in their huge tracts of undeveloped land (and in the meantime, you do still get a yield that’s competitive with the others). I continue to think they’ll generate strong distributions for many years, probably growing distributions unless natural gas prices fall apart, and that their sustainable growth is underappreciated compared to all of their near-competitors who have generally have more clearly depleting asset bases and little to no flexibility for reserves expansion.

The general picture for production at Dorchester also remains more or less the same — they have some declining (naturally) older wells, particularly in the Hugoton basin, and near-term growth is expected from drilling in the Bakken and in the Fayetteville shale, both of which have been producing on their properties but which haven’t hit the books at full impact yet because of the structure of those deals (a net profit interest in the Fayetteville which requires paying back investment before profits are received, and a passive royalty interest in the Bakken which allows the driller to recoup 150% of well costs before paying the royalty). If oil prices remain above $70 and natural gas remains above $3.50 or $4 (or, as I expect it should, it climbs over the next few years), then I think Dorchester will continue to grow their revenues as demand for producing on more of their leaseholds increases. Buying at this price is averaging up by a fair amount for me, but with an effective 5% yield or so I’m happy to own more shares here (and the 4th quarter distribution has seasonally been weak in recent years, so it could be higher).

So how about Manas Petroleum (MNAP)? They share a name with the airfield that the US built in Kyrgyzstan to support Afghan operations, and which turned into a local political lightning rod — and yes, they also do have a substantial exploration position in oilfields in the Kyrgyz Republic.

This is a very small oil exploration company (market cap about $70 million at the moment, though they have a secondary offering that will probably add $20 million to that number — the offering should hit in the next week or two, which is probably helping to depress the shares), and they are largely a play on what they hope will be some giant oil fields in Albania. Manas was built to capitalize on oil fields in Eastern Europe and Central Asia that were basically dropped or abandoned with the death of the Soviet Union, following up on old data and exploration to make new discoveries, update known resources, and get some substantial oil fields ready for production again.

They describe their strategy thusly:

“Manas Petroleum’s principal strategy is to acquire and farm-out key land positions in major oil basins which have large seismically defined prospects near significant oil or gas production. At the core of this strategy is that Manas farm-out partners pay all costs until commercial production allowing Manas to retain substantial carried interests.”

And what brought Manas to my attention again (I had looked at them a year or two ago when I first started hearing about Mongolian oil — more on that in a minute), was the fact that they successfully spun off their Albanian operations into a Vancouver-traded company and that company has now been publicly traded for a year and generated some news flow of it sown … so we can get a little extra valuation information.

Manas’ most valuable asset is those Albanian exploration blocks — they spun off ownership of those production sharing agreements, which are for blocks surrounding and near the large oil fields of Albania, which is probably the most prospective country in Europe for onshore oil development. The big oil story in Albania in recent years has been the Canadian company Bankers Petroleum (BNK), which has grown to a $2 billion market cap on the strength of the Patos-Marinza Oilfield, which at about seven billion barrels of original oil in place is the largest onshore oil field in Europe. They’re producing about 13,000 bopd now and expect to get up to 20,000, so they’re a real midsize oil company.

The Manas spinoff in Albania, which is called Petromanas (PMI in Vancouver), is valued now at about $230 million, and Manas Petroleum holds about 30% of the shares (many of which are in escrow and can’t be immediately sold). There is some room to expand Manas’ shareholding in Petromanas if they achieve certain operating results, but for now Manas owns 200,000,000 shares. At 35 cents a share, that’s C$70 million. Which is $73 million on our side of the border. In addition to the Manas Petroleum shares I just picked, up, I also added a small tranche of warrants on Petromanas shares just to goose my speculation a little.

Manas can’t sell all their Petromanas shares today, as I said, but they are able to sell at least 25 million shares immediately if they wish to raise cash, since they announced as much in their latest earnings release — and that will help to fund capital investment in other areas, particularly in Mongolia. But if we assume that Petromanas is worth what the market currently says it’s worth (those shares have bounced around from 30-50 cents for most of the past year as investors have been awaiting news), then Manas Petroleum is clearly undervalued — they have a market cap of $66 million, and just their Petromanas shares are worth $73 million, which means you get their exploratory parcels in Tajikistan, Kyrgyzstan, and Mongolia for free.

And those exploratory parcels, though they’re fairly early in the process, are certainly worth something (and, of course, they also carry obligations — particularly the Mongolian parcels that aren’t farmed out or partnered) — their most advanced prospects outside of Albania are in Kyrgyzstan, which is politically somewhat a concern (that has arguably lessened since last year), but they are essentially carried as free riders on that. They have a deal with Santos, a major oil company in Australia, in which Santos will spend $54 million developing the Kyrgyz properties, including seismic and exploratory drilling, and Manas doesn’t have to spend anything to hold their 25% stake until production begins. The Tajikistan parcels are apparently just across the border, part of the same oil system, though they don’t emphasize the Tajik part as much on their website so I imagine it’s a low priority — and Santos also has an option on those parcels, which is good.

The other exploration blocks they own, which got my attention in the first place back when I first looked at Mongolia and Petro Matad[6], are in southeastern Mongolia. They have rights to Blocks XIII and XIV, with roughly 3/4 ownership (the rest is owned by a couple outside investors and a Mongolian company), and they have started work on the exploration program, which can extend to 2014 — they have done the first batch of seismic, and there is some historical data to indicate that there are proven petroleum deposits in part of their area.

Their two Mongolian land positions also surround producing oil fields that are owned and operated by Sinopec, so I think there is some reason for optimism despite the fact that they haven’t yet even mobilized a drilling rig — or perhaps it’s more “hope” than “optimism.” They’ve committed to drilling three exploratory wells by 2014. They say the drilling of their first well is “anticipated” in 2011, but, frankly, I wouldn’t hold my breath — they might move that fast, and after their equity raise and with the sale-able portions of their Petromanas shares they could pay for all three wells at this point, but I wouldn’t be surprised if it takes longer than that. It all depends, I expect, on how aggressive they’re feeling, and how confident they are in their drill targets.

So, with oil topping $125 a barrel in Europe (that’s Brent Crude), is this something that’s worth a tumble? You know my answer since I just bought a few shares, but, as I said, there is also plenty to make one nervous with this stock. George Soros’ Quantum Fund is a substantial investor in Petromanas (the Albania spinoff), but he also sold a chunk of his shares over the last year — Quantum still owns about 8% of the company (more if you count their large warrant position, which is underwater now).

The problem? Well, as I said, Manas Petroleum has paid for “analyst” coverage — like that from Undiscovered Equities, which you can see here[7]. That’s far from being the worst kind of stock promotion, but it’s still stock promotion, which generally sends a red flag flying for me. Or at least fluttering. Of more concern was the kind of stock pumping that was being done for these shares back in 2007, when they traded at more like $4-5 per share and had lots of pump and dump letters touting the stock, but I haven’t seen that kind of thing for several years and I don’t know if the company was involved with those campaigns at the time.

And the other potential problem is the connection to Carl Civelli, who has been an active Vancouver investor for a long time and backed at least one company that apparently, by what I read, did a fraudulent seeding of their gold core samples — that was Delgratia, it was a decade or so ago and I didn’t know the story until I started to look into Manas, though apparently Civelli himself wasn’t implicated. He has also been involved in InterOil, which some folks claim is a scam story (I don’t necessarily agree — though I don’t own shares of that one, that’s the one with a big gas discovery in Papua New Guinea). There’s a little summary of this at a blog posting here[8], which also includes some of the slick promo videos that Manas has put out. So if you’re interested in Manas or Petromanas it’s worth getting comfortable with the folks who own most of the shares, and with their promotional posture. Management and founders still own a large chunk of Manas Petroleum shares as well — about 45 million of the 125 million shares are held by the founder, CEO and ex-CEO, and they have been consistent sellers of stock but in very low relative quantities (ie, selling 100,000 shares when you own 10 million).

And yes, this is wildly speculative — I think there’s a chance that they will show some good technical or drilling results in Albania or Mongolia that will drive up the stock, and I think it’s worthwhile to take a look at speculative stocks like this especially when they haven’t reacted positively to rising commodity prices (yet, at least) … but it’s certainly not “in the bag” in any sense. This is a gamble on my part, and in part it’s a gamble that companies will grow increasingly desperate to get access to interesting exploration targets as oil prices climb, so they may have a chance to farm out their Mongolian properties on good terms, too, though it’s early yet for that. Here’s how they put it on their website to be clear:

“We must caution you that, although we have announced information about our properties from time-to-time, there is no evidence that there exists a commercially viable oil or gas deposit on any of our properties. Further exploration is required before we can evaluate whether any exist and, if so, whether it would be economically feasible to develop or exploit them.”

And yes, if you’re interested in taking a look at these shares do note that there is that Manas Petroleum secondary offering apparently in the works — and it would be surprising to me if the offering went for much more than 50 cents per share (a small discount to the current price of 53 cents or so), so that could be a drag on the stock.

On the flip side, they’re also planning to file for a listing on the Venture exchange in Canada, which could improve their investor profile, though I don’t know of a timeframe on this and they may need better reporting to get there. You can see the latest update from Manas here[9], which includes their assessment that they should have enough cash to get through until next February, but that they’re registering to sell $20-30 million worth of shares anyway. For me, this is all about the fact that you get exposure to Petromanas, their most advanced holding, at a discount, and you get their Mongolian exploration and the potentially valuable farm-ins with Santos in Central Asia for free. Of course, sometimes when you get stuff for free that means it ain’t worth nothin’ anyway … but my take ofter reading through info on both stocks was that it was worth a small gamble. I expect it will also take some patience, so we’ll see.

Endnotes:
  1. profiled as the “Idea of the Month” in this space back in September: http://www.stockgumshoe.com/premium/irregulars/?p=328
  2. Berkshire Hathaway: http://www.berkshirehathaway.com/
  3. Leucadia: http://www.leucadia.com/
  4. back in September: http://www.stockgumshoe.com/premium/irregulars/?p=328
  5. get in and read their SEC filings: http://sec.gov/cgi-bin/browse-edgar?company=dorchester+minerals&match=&CIK=&filenum=&State=&Country=&SIC=&owner=exclude&Find=Find+Companies&action=getcompany
  6. Petro Matad: http://stockgumshoe.com/2011/04/51-billion-worth-of-soviet-oil-revisited.html
  7. Undiscovered Equities, which you can see here: http://www.undiscoveredequities.com/
  8. little summary of this at a blog posting here: http://brontecapital.blogspot.com/2010/06/what-is-it-with-carlo-civelli-and.html
  9. latest update from Manas here: http://finance.yahoo.com/news/Manas-Petroleum-Corp-iw-805643326.html?x=0&.v=1

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