We’ve gotten a bunch of questions recently about this pitch from Nathan Slaughter about gas to liquids technology and the “death of OPEC,” so I’m sharing an excerpt from the Friday File article about this teaser that we published a little over three weeks ago for the Irregulars.
Don’t worry, it’s the meat of the article — I didn’t leave out the tickers or any of my comments on this particular stock, I just left out the comments about a few other stocks I cover for the Irregulars and about my personal portfolio. I still don’t own any of the stocks mentioned below, for full disclosure, and haven’t traded any of them in the three weeks since I wrote the piece.
So … what follows was originally published on March 22. It has not been updated or edited.
“This 68-year-old Disruptive Energy Technology Could Mark the End of OPEC as we Know it.”
There have been more than a few ads that talk about the “end of OPEC” — from the “Eagle Diesel” pitches made by Frank Curzio for the natural gas-driven transportation revolution, to the more misguided love affairs with geothermal energy in years past, but this one is a bit different … and, for a change, it focuses on an inexpensive, profitable and dividend-paying company.
So I thought it was worth taking a look for you in this week’s Friday File (we’ve also got a few updates on stocks we’ve covered in the past, including Lonrho and Invensense — those are down at the bottom).
This particular ad comes in for the Scarcity & Real Wealth letter from StreetAuthority, edited by Nathan Slaughter … so how does Slaughter catch our attention?
Well, here’s the intro to the ad:
“The U.S. Defense Department has already tested this new-age biofuel in its B-52 bomber fleet, while one major airline has already locked in a 10-year supply.
“Forbes calls this development ‘a small but significant step forward in sustainable aviation.’Are you getting our free Daily Update
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“The Wall Street Journal says, ‘Early adopters will make the most money.’
“You’ll call this the most profitable investment idea for 2013.
“If you can get in now — before this technology is rolled out in the U.S. — you could easily turn a $5,000 investment into $50,000 in the next five years but double that again when it’s licensed to China.”
So that sounds nice, right? Slaughter goes on to talk about the huge impact that fracking has had on natural gas prices, and says that this next step — which is dependent on those low nat gas prices — will help drive down the cost of gasoline and diesel fuel. And, of course, help make us rich in the process. He says he has two goals:
“1. To tell you about a “new” 68-year-old gas-to-liquids (GTL) disruptive energy technology that America’s glut of natural gas has made commercially profitable, and
“2. To explain how you can get in on this incredible wealth-building opportunity before licensing of the gas-to-liquids technology around the world begins and the company’s stock price doubles….
“I know how preposterous it may sound that GTL technology could be more profitable than fracking.
“But not when you fully understand how falling natural gas prices make it possible for GTL technology to profitably produce a barrel of diesel fuel for $66 — compared to $124 from crude oil… then you can begin to see the profit opportunities staring you in the face.
“Especially now with natural gas prices hitting their lowest point in 35 years as the fracking boom spreads around the world, more shale reserves are tapped, and more natural gas floods into the market.
“And that’s just the beginning.
“With natural gas prices at record lows, this breakthrough technology has the ability to recapture — hold on to your hat — billions of cubic feet of natural gas that’s burned off from venting at oil wells.
“Do you realize what this means?
“This company is sitting on technology that when fully realized could be worth hundreds of millions of dollars by capturing the vented and burned natural gas from oil wells around the world and turning it millions of barrels of diesel fuel.”
So … which stock is he touting? We get some more clues here:
“The company is in the process of developing two North American GTL conversion plants right in the heart of America’s natural gas industry, adding to its flagship Qatari and South African operations.
“When its new plants come online in the next few years, we foresee a 100% rise in its stock price to be just the beginning.
“That’s because the company’s natural gas conversion plants develop not only ultralow-emission diesel but also ultralow-emission jet fuel as well — which the U.S. Air Force has already tested and locked in a 10-year supply of.”
OK, so that “South Africa and Qatar” bit is probably too much of a hint — you might be guessing at the company already from just that, and you’re probably right — but we do get a few more clues just to make sure we’ve got the pick identified:
“Simply put, GTL is a chemical process the German military pioneered in WWII to convert coal to synthetic fuels. Developed by Franz Fischer and Hans Tropsch, this technology produced 124,000 barrels of synthetic fuels daily at 25 plants in 1944.
“Without getting too technical, the Fischer-Tropsch process creates synthetic fuel from coal and natural gas just like an oil refinery turns crude oil into petroleum, gasoline, and diesel fuel — only the process is much different and more expensive.
“That’s why this technology was largely ignored 68 years ago, except in South Africa, where the country depended on GTL technology to meet the its energy needs during the apartheid years.
“For these reasons, South African engineers continually worked to improve on this technology to bring costs down. Thanks to the falling price of natural gas, this company can profitably produce a barrel of diesel fuel for $66 a barrel! That’s a whopping 80% lower than oil-produced diesel’s production cost of $124 a barrel.
“As a result, this proven technology produces nearly 1 million barrels of diesel fuel a day — and at a significant savings in the countries where it is now in operation….
“As The New York Times recently reported, this technology can ‘produce diesel fuel that burns cleaner, costs less and creates less greenhouse gas pollution than fuel derived from crude oil.'”
So who is it?
As you may have guessed, the Thinkolator confirms that the stock being teased here is Sasol (SSL), the South African company that has been the major mass-scale user of the Fischer-Tropsch process for many years — mostly because South Africa had trouble getting oil imports during the Apartheid years when they were global pariahs, but they had (and have) plenty of coal to turn into liquid fuel and petrochemicals. Sasol was a major market darling during the last oil run-up, from the early 2000s until the crash in 2008, but has not participated much in the recovery and sustainably high ($80+) oil prices over the last four years.
They did have a rough patch in 2008-2009, when their share price was cut in half along with most other companies’ and they cut the dividend, but since then they’ve instituted a “progressive dividend” policy — which basically seems to mean that they’ll continue to raise the dividend as long as their earnings rise and their balance sheet permits. Which ain’t exactly a promise, but they have raised the payout by 15-20% a year over the last three years and the trailing dividend is now almost exactly 5%, and it represents a payout ratio of not much more than 50%, so there should be plenty of room to raise it if they want to. (Payout ratio is just the percentage of earnings that are paid out as dividends — the trailing twelve months saw earnings of about $4.10 and a dividend of $2.19.)
And Sasol has been active around the world in setting up various unconventional refineries — including a huge one in Qatar that is the standard-bearer for those who think GTL is going to be a meaningful driver for the refined products industry. Qatar is the home of the cheapest natural gas in the world, and a wealthy government willing to partner with outside companies, so if it can’t work there it won’t work anywhere.
But even in Qatar it ain’t cheap — building these refineries is at least twice as expensive as building comparable crude oil refineries, so you really, really need the oil/gas differential to remain skewed, as it has been for a few years now, for this to work out. The economics of GTL mean that natural gas has to stay low, and crude oil has to stay high.
The New York Times article that Slaughter cites in the promo is far more circumspect about the potential than the snippet he quotes would imply — you can see the full article here, but this is one excerpt to give you the flip side of the argument:
“‘The reason you see so few G.T.L. plants is the economics are challenged at best,’ said William M. Colton, Exxon Mobil’s vice president of corporate strategic planning. ‘We do not see it being a relevant source of fuels over the next 20 years.’
“Many analysts and industry insiders say the technology makes sense only when oil and gas supplies and prices are far out of balance, as they are today in Qatar and the United States. When oil and gas come into alignment, gas-to-liquids ventures will become white elephants, these skeptics say. Environmentalists also say that the huge energy inputs required to transform natural gas into diesel or other fuels negate any greenhouse gas benefits.
“Until recently, the method used to convert natural gas or coal to liquid fuel — known as the Fischer-Tropsch process after the Germans who invented it — had been used only by pariah nations desperate for transportation fuels when they had little or no oil available. For decades, South Africa defended its system of apartheid from international oil embargoes by producing synthetic oil from its rich coal resources. Nazi Germany did the same to fuel its military machine in World War II.
“But with North Africa and the Middle East chronically unstable and natural gas cheap and plentiful in the United States, some say the technology is now an enticing option to produce various fuels without importing a drop of oil.”
And the Wall Street Journal article that was cited also does note the huge cost and potential risks of GTL plants — the quote about the “early adopters” making the most money was from a consultant quoted in that article. (The consultant was from ESAI, which I don’t know much about — the only time I remember seeing their work before was when they warned about inflated oil prices when oil was around $80 in October 2009 — it so happens that in the years since then, $80 has been the floor off of which oil has continued to bounce — not that this necessarily means anything about their ability to forecast the potential of the GTL refining business.)
So … is it more likely that we’ll see a mass conversion of the U.S. trucking fleet to natural gas engines, benefitting folks like Westport Innovations (WPRT), Cummins (CMI), Chart Industries (GTLS), Chicago Bridge and Iron (CBI) and Clean Energy Fuels (CLNE) as that infrastructure is built up and the engines manufactured? Or is it going to be a push to turn that natural gas itself into usable refined liquid fuels that wins the day, benefitting Sasol (SSL) or others who put money into liquefaction plants?
Both of these strategies are premised on the huge new production increases in natural gas from US shale deposits (or from cheap Qatari gas fields), so they require gas to remain much cheaper than crude oil, but to some degree they’re also going to lower their own margins over time — the more natural gas can be liquefied and transported to those who are willing to pay more (ie, LNG that can be shipped around the world), or refined and turned into gasoline, which is also easy to price based on global markets, the more the price of natural gas will rise relative to crude oil, thereby pressuring the margins of all the companies involved.
Frankly, I am more comfortable with the natural gas engines and LNG as a theme — partly because it’s more of a gradual infrastructure buildup and isn’t dependent on one or a few $10+ billion refineries being built … but when it comes to valuation I’m actually more comfortable with Sasol as a relatively conservative investment, given their excellent dividend and international diversification, than I am with WPRT or CLNE at these prices.
They may well end up failing in this effort to make the Fischer-Tropsch process mainstream in North America, that’s something we won’t know until they put the $10-15 billion into their planned Louisiana refinery and we see if natural gas is still cheap enough to make it profitable when that’s up and running in five or six years. I suspect that of the companies I mentioned above in the natural gas infrastructure space CBI is probably a better value here if you don’t need a dividend, but SSL is cheaper than any of those other companies and is a major coal, oil and refining company with a growing global footprint, and they pay a growing dividend of better than 5%. They do not, of course, own this process — other companies have developed GTL plants in the past, including one cautionary tale (Shell built one in Qatar that they say they’re happy with, but it cost almost $20 billion) — they’re just the major company that’s most committed to this technology and most expert in developing refineries and plants to exploit it, so they are a logical leader if GTL is going to become a significant part of the energy landscape.
I’m not buying any of these stocks personally — I still like Westport because of their technology and the hugely scalable potential, and it’s still on our watchlist, but I think we’ll continue to see times when WPRT becomes a much cheaper stock before it becomes sustainably profitable, it gets cheap every few months when investors start to say to themselves, “hey, that thing they said about being six months from profitability sounds like an echo from their conference calls from 2010!”
And I do like CBI, which is far more of an earnings growth story than Sasol thanks to their backlog of LNG (and other) engineering and construction projects, but I find it hard to buy stocks that have turned into momentum darlings and come close to doubling as I dithered about whether or not to invest (I know, that’s a personal weakness — I can recognize the weakness, but it’s still hard to overcome it), so I’d probably buy CBI before Sasol if I wanted to invest in a company that profits from low natural gas/high oil prices. But I would probably buy SSL before investing in one of the big US oil majors like Exxon Mobil (XOM) if I wanted that kind of big energy company dividend, largely because SSL does have that unique driver of potential profits if their GTL plants really take off and other countries decide to partner with them — SSL trades at a similar valuation to most of the mega oil majors but is far smaller, and does pay a higher dividend than most.