“Bakken Oil Play You’ve Never Heard of … Stealth Trade of the Year”

By Travis Johnson, Stock Gumshoe, August 16, 2011

The following is an excerpt from an article I published for the Stock Gumshoe Irregulars (our paid members) in the Friday File on July 1. It has NOT been updated, though I don’t believe there’s been official news from the company in the interim, and the ad it’s based on is running again with much the same (if not the exact same) message. I have updated only the disclosure information about which stocks I own at the bottom.

Keith Schaefer is teasing potential subscribers to his Oil & Gas Investments Bulletin, a relatively new newsletter, about a shale oil play that he calls the “stealth trade of the year.” Sounds exciting, right? I thought it was interesting, and after doing some initial research earlier in the week one of the companies I found was intriguing enough to me that I opened a small position yesterday … but I hadn’t scoured the ad fully enough to be sure I was right about what he’s teasing, so let’s get into that now.

Schaefer knows how to get our attention — mention the big millionaire-maker Bakken oil juniors who got all our attention a few years ago when the Bakken play in the Williston Basin was just starting to heat up, stocks like Brigham Exploration (BEXP), Northern Oil and Gas (NOG), and Kodiak Oil (KOG). Here’s what he says:

“If you were among the many investors who’ve taken Bakken profits to the bank… then it’s well done to you.

“And if you missed out on the opportunity to capitalize on the Bakken’s early plays, I have some very good news to share.

“In the next 15 minutes, I’ll show you a repeat of the Bakken oil play… emerging right now.

“It’s an early-stage play. Several junior oil companies have large land positions in the heart of it – a perfect scenario.

“And they have all the upside of the original Bakken juniors….”

It’s a tempting premise for those of us who didn’t do much investing around the first Bakken land rush and missed out on those profits (I’m looking in the mirror here). So where is this “new Bakken?”

“This new Bakken play isn’t in North Dakota (which – thanks to the Bakken – is now the fourth-highest oil-producing state in the U.S.).

“Part of it is in northwest Montana – but far away from the original Bakken, and in a totally different geologic setting.

“It’s called the Alberta Bakken.

“It now stretches roughly 40 miles on each side of the Montana/Alberta border. Exploration is continuing.

“And it’s about to become the next big shale oil field in North America.”

He goes on to tell us that this Alberta Bakken is already heating up — with the “original Alberta Bakken players” Rosetta Resources (ROSE) and Newfield Explorations (NFX) already producing oil, and land prices going up from under $100 per acre to over $1,700 per acre in the last year. And this little company apparently snuck in the back door, when no one was excited about oil here:

“So how did this small junior oil company – my favourite new pick – end up with nearly 200,000 acres, in the hottest shale oil play in North America?

“It literally fell into their lap.

“You see, they bought it as a natural gas play several years ago. They picked it up quite cheap.”

Some other companies are mentioned who have helped to raise the profile of what Schaefer says is still a “stealth” play — including larger firms like Murphy Oil (MUR) and Crescent Point (CPG in Toronto), which is helping to increase attention and land prices. He says that the first catalyst for the region was Rosetta’s announcement of potentially huge resources (10-13 million barrels per square mile) in their Alberta Bakken holdings, and the second catalyst was when Crescent Point bought a huge land position in the area last Fall. But there’s one small company that he apparently likes best of all that’s part of the next catalyst:

“The third catalyst just happened just a few months ago, when two companies – including my favourite – announced successful wells in the Alberta Bakken.

“Now there’s one more thing I like about this play:

“It’s cut off to the north, east, and west.

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“Why is that important?

“Well, if anyone wants to play in this sandbox… they now have to buy their way in.

“And that’s great news for my # 1 junior oil company in the play – and its investors… especially considering this company is an instant takeover target upon success.”

The company is holding so much land, we’re told, that they can’t explore it all on their own, so they’re bringing in partners — some more clues:

“it recently brought in a deep-pocketed partner – to help capture this coveted light Bakken crude.

“The partner agreed to pay 100% of the cost to drill 4 wells – at $4 million a pop – just to earn 60% of a small part of the play.

“That ‘small part’ is just a few dozen sections – a fraction of my #1 junior oil pick’s total land position!

“Of course the partner wanted more – the whole play, to be sure – but settled… taking what they could get from an imminently profitable play.

“After all, at 4 wells per section, that would still come out to 100 wells.”

And as you might expect, Schaefer sees another catalyst coming: drilling results. Here’s what he says:

“The company has drilled two horizontal wells: The first one is a success. And the second is about to get tested, or fracked.

“As I said, this play isn’t just imminent – it’s happening NOW.

“They’ll drill 5 more wells this year. That’s 11 wells getting drilled on their property in 2011, including their partner.

“And, after all this activity, they’ll still have over 200 net sections remaining… a drilling inventory of several years.”

And that’s about all we get by way of clues. Let’s toss all that into the Thinkolator and let it all cogitationize for a few minutes.

The answer? Yep, this is almost certainly Reliable Energy (REL in Toronto, RELZF on the pink sheets), which is, as I noted at the time of purchase, the stock I nibbled on yesterday.

And yes, that’s “almost certainly,” not “certainly” — I certainly was interested enough in the stock to pick some up, but the clues are not necessarily providing an unambiguous match, though I know from previous Schaefer articles that he has at least heard of the company (some of his readers suggested it to him back in March, so my speculation is that after digging in he liked what he saw). Reliable Energy did indeed buy in to a massive land holding in Montana in the “Alberta Bakken” area, a bit west of the actual Bakken but perhaps having similar potential to the Williston Basin (I don’t know how sure they are about any of this geology just yet). They are partnered with a company that’s now called Montana Exploration (MTZ in Canada, ATDEF on the pink sheets) and which was originally looking for shallow gas deposits on this land — land that’s actually on the Fort Belknap Indian Reserve. They didn’t do it “several years ago,” though, at least not the Montana portion — that was just last year.

There’s been a fair amount of corporate dealmaking going on with these two companies — Montana Exploration used to be called Altacanada, and Reliable Energy was swallowed in a reverse takeover by an investment company called Ceres to get to this point, so part of the reason for the lack of attention is that both are tiny and new and the matchup between the two is less than a year old. Montana Exploration is far smaller, market cap less than $20 million compared to the still small Reliable’s market cap of about $90 million, which makes sense since the Montana property is just barely beginning to be explored and Reliable has some far more advanced properties in Canada that are actually producing oil, particularly in a section they call the Kirkella Core Area over on the other side of the Williston Basin in Manitoba and Saskatchewan — and, as you might expect, a company that has already found and started producing oil should always be worth more than one that’s just starting to look.

And I don’t know if it’s necessarily a secret, but certainly this western Montana oil zone (most folks seem to call it the Alberta Basin) away from the core of the Bakken is much less well-known than the Bakken itself, and it’s still not really the main asset that Reliable Energy talks about in their presentation materials — the acquisition was made just last October, and Reliable has fairly recently disposed of its producing natural gas assets, so their transformation into an exploratory light oil company is pretty new and most of their money is still going into increasing production on their Canadian properties.

I picked up shares because I like the idea of really big, early on land holdings in areas where there’s some potential for a mania to develop — so this is absolutely a speculation on my part, I can’t justify investing in Reliable based on just their near-term production even though I appreciate that they are rapidly spooling up production and, with perhaps a dozen more horizontal wells coming into play this year in their more mature Canadian sections, possibly spooling up production pretty dramatically.

The part that’s tough to match up precisely is the drilling plan — the “two wells in Montana so far” part is true, they had one successful test well drilled last Fall, almost in secret, as they prepared their deal to partner with what is now Montana Exploration, and they drilled and cased a second well over the Winter but have thus far been unable to test the fracking of that well, so that’s some potential news that ought to come out shortly (they had to wait until June or “until the rain stops” to get crews and equipment to the site, and even had to invest in some pads to make it possible to work on site during the very wet Spring).

And they are planning to do a fair amount more drilling this year — they have a joint venture with Crescent Point in the Kirkella section of the Bakken (that’s the Canadian side) that holds 112,400 acres (Reliable is the operator and owns 75%, so the net acreage is 81,800), and they plan 15 horizontal wells in that area this year (five should be done now), along with a waterflood study to see if Crescent Point’s success with water floods in the Bakken will extend to this section.

The Montana property in Blaine County is 336 sections, and they have a 45% working interest so it ends up being roughly 100,000 acres and 150 sections net to Reliable, which they acquired for a million dollars — which is indeed $10/acre. They are planning five vertical wells this year, but I don’t know if that’s all Montana or if it also includes the other areas, and they expect to end the year producing 1,500 barrels of oil per day. The first quarter’s production level was just over 600 barrels/day and the “exit production” (the level at the end of the quarter) was 715 barrels/day, which was short of the predicted 900 when they last updated their investor presentation in March — that shortfall, along with their yet-to-be tested second test well in Montana, appears to be pretty directly connected to equipment and crew shortages and abnormally wet weather this Spring (Spring is always a slow time in these oil fields due to the morass of the snow melt, but they apparently also had heavy rains this year).

They have a huge number of potential drilling targets on their roughly 200,000 net acres — they claim 600 gross locations in the inventory, which equates to 450 net locations (across both land areas), with more than half being “tier one” targets. I don’t know what “tier one” means on a technical level, but it at least sounds encouraging.

Their operating costs seem surprisingly low, given the challenge of getting rigs and fracking crews lined up in this part of the world — they say operating costs will run between $10-12 per barrel, and the royalties are 18%, so they certainly have the potential to be profitable fairly soon if their production matches estimates, particularly as long as oil stays over $80.

The last time they reported, at the end of May, this was their status update:

“While Reliable’s first quarter performance was strong, the Company continues to be affected by the availability of services and the above average precipitation levels in southeastern Saskatchewan and southwestern Manitoba. Consequently, Reliable is expecting a longer than normal spring breakup in these areas that could impact the Company’s ability to fully execute the remainder of its 2011 business plan. Any further delays in securing services or getting into the field could have a negative effect that would necessitate a revision to its annual average production and cash flow guidance, and as a result, the Company will closely monitor conditions.”

The Saskatchewan/Manitoba work appears to be on track now, as of June 30 they reported that they had a drilling rig and fracking crew commitments for the next three quarters, and that they still plan to drill 10 more horizontal wells and increase production — and they also added a few thousand more acres in the Canadian side of the Bakken, but so far I’ve seen no additional news on their second Montana well being tested or the “at least two” other exploratory (vertical) wells they expect to drill in Montana.

So … that was enough for me to take a nibble whether or not this turns out to be an accurate match for Schaefer’s tease, as I’ve been investing small tranches in several oil juniors with large prospective land positions lately and little to no natural gas exposure.

Updated full disclosure: As noted above, this article has not been updated since July 1, but I do still hold shares of Reliable Energy and will not trade in this stock for at least three days. I am not currently (and won’t be for at least three days) invested in any of the other names mentioned above.