Source: Oilprice.com / February 20,
2014 / It wasn’t too long ago that Federal Reserve Chairman
Alan Greenspan issued a warning about the shortage ofnatural gas in
the United States. “Today's tight natural gas markets have been a
long time in coming, and distant futures prices suggest that we are
not apt to return to earlier periods of relative abundance and low
prices anytime soon,” he said in 2003. Yet, only a few short years
later, savvy drillers found ways to unlock a flood of shale gas.
Now the U.S. is trying to figure out what to do with the abundance,
and companies are racing to line up export permits to send LNG to
Asia.
That story is well known. What is less known, but equally
momentous, is a similar shale gas revolution unfolding in Canada,
albeit to a lesser degree. Several years ago Canada had plans for
seven LNG import terminals in order to satisfy domestic demand.
Shale gas production has upended that equation, and Canadian
companies scrapped plans for all of those terminals. Now, Canada
wants to build export terminals to sell its gas overseas.
Of particular importance is the Montney Formation in Alberta and
British Columbia. Not well known – particularly outside of Canada –
the Montney Formation rivals the Marcellus Shale in the sheer size
of its natural gas reserves. The Montney Formation may hold
somewhere between 250 and 350 trillion cubic feet (tcf) of natural
gas, compared to the Marcellus Shale, which according to estimates
has between 225 and 520 tcf.
And the Kitimat LNG project on British Columbia’s west coast
will provide an outlet for shale gas from the region. Originally
intended to be an import facility, it will be turned around for
export through a joint venture between Chevron Canada and Apache
Canada. This will allow Alberta and B.C. shale producers to find
new markets in energy hungry Asian countries like South Korea,
China, and Japan.
There are several ways to play this trend for investors, but I
like finding the small companies with huge upsides. By that I mean
low-cost operators, positioned in resource-rich areas, with strong
markets nearby. To be sure, these small companies are risky, but
they fly below the radar and precisely because of their small size,
there is enormous room to grow.
One high-risk high-reward company is Blackbird Energy
Inc. (TSXV: BBI.V), which just announced its purchase of
Pennant Energy. Blackbird is a nano-cap ($9.45 million market
capitalization) stock that trades on TSX-Venture. It is a small oil
and gas company in Alberta and Saskatchewan, which are the two
largest oil and gas producers out of all of Canada’s provinces,
combining for 90% of the country’s oil output.
It has produced a small amount of oil from the few wells it has
drilled, but it has snapped up acreage in the right areas. For its
fiscal year 2013, Blackbird produced a mixture of natural gas,
natural gas liquids, and crude oil for a total of around 160
barrels of oil equivalent per day. The company’s management says
that it hopes to drill successful wells, and replicate and scale
them. This, they argue, will allow them to become the next “great
junior producer.”
There are several reasons why I like this company:
1. It just made a smart acquisition. Blackbird
Energy announced on February 18, 2014 that it would acquire the
remaining shares of Pennant Energy Inc., with the consolidated
company retaining Blackbird’s name. The acquisition of Pennant
offers complementary assets to Blackbird’s portfolio and allows the
company to achieve some economies of scale. The combined Blackbird
will merge the two companies’ stakes in the Bigstone Montney
Project, a natural gas and liquids rich play in northwest Alberta.
Montney is Blackbird’s bread and butter; its highest producing
asset and a tract it thinks has huge potential (more on that
below). The consolidated company of Blackbird and Pennant will now
own 50% of the project, as opposed to the separate companies each
operating their own 25% stake. The story is similar for its
Mantario Oil Project, located in central Saskatchewan. Last
November, Blackbird successfully struck some oil in the Mantario.
It is now producing over 20 barrels of oil per day. Building on
that initial success, BlackBird hopes to go bigger. It plans on
drilling its first horizontal well in the Mantario project in the
second quarter of 2014, at a cost of less than $1 million. Brining
Pennant’s holdings on board gives Blackbird a 100% stake in the
project.
2. It’s holdings in the Montney Formation. It
right now produces more than 60 barrels per day, with plenty of
room to grow. The play’s decline rates are flatter than other
comparable shales, with high estimated recoveries. It is also rich
in natural gas liquids, which is more lucrative than dry gas. The
Montney Formation is going to be a big story for years to come, and
Blackbird seems to be in a good position here. Management is
optimistic that it can parlay its success from this project into
further growth.
3. Blackbird’s neighbors have had great
results. Blackbird has holdings in an area that has proven
to be fertile. It owns seven parcels near Delphi Energy, a similar
company operating in a similar environment. Delphi Energy has
drilled several wells that are producing around 1,300 barrels of
oil equivalent each. These wells have net present values of $25-$26
million. Based on the good numbers from Delphi Energy is producing
nearby, there is no reason to think that Blackbird can’t see
similar results.
4. Similar companies have exploded. Blackbird
is not paving new ground here; it is following in the footsteps of
other companies. Tiny drillers are risky, but when they blow up,
they blow up big. As mentioned above, Delphi Energy (TSE:
DEE) is a similar company to Blackbird. It operates in
Alberta and its stock traded as low as $1 per share in early 2013.
Now it’s up to $2.50, a 250% increase. Kelt Exploration
(TSE: KEL), which operates in B.C. and Alberta is another
example. It traded below $6 per share in the spring of 2013, but is
now around $11.50. Rock Energy (TSE: RE), a heavy
oil driller in western Canada, trades at $4.40 per share, up from
around $1.10 a year ago. Rock’s discovery and successful production
from the Mantario play is encouraging for holders of Blackbird
stock. Blackbird has similar holdings in the Mantario, and Rock’s
success suggests Blackbird has a good chance of doing the same in
its Mantario Oil Discovery.
5. Management has a good
strategy. The company’s strategy for “growth through
carefully targeted acquisitions,” as it laid out in a press
release, makes sense in the case of picking up Pennant. It gives
the combined company more production per share and more cash per
share than the individual companies had separately. The compatible
and complementary holdings of the two companies made their marriage
a no-brainer. It also is consistent with the company’s strategy of
pursuing internally-generated growth – that is, maintaining a high
degree of ownership over operations, and developing projects for
long-term value. Blackbird has showed a penchant for successfully
drilling wells, producing a small amount of oil (dozens of barrels
per day), bringing in some cash from that early production, and
redeploying that capital to grow its production portfolio. That’s
how you gotta do it as a small player – slow but steady growth,
smart acquisitions, efficiency gains, and an appetite for risk, but
with some patience.
Blackbird’s future entirely depends, obviously, on its ability
to avoid drilling wells that come up dry. As a small company, it
has little room for error because the costs of drilling account for
a much larger portion of the company’s value than a large oil
company. A few wrong decisions and it will be out of business. But
based on the results from similar companies operating in the same
formations, Blackbird has a better shot than most companies trying
to get off the ground. Many of its prospects involve shallow wells
with high certainty, and it operates in proven areas that are
already producing oil, natural gas, and natural gas liquids. A big
question mark hangs over whether or not B.C. will get in the way of
the Kitimat LNG export terminal, which would limit the market for
gas coming out of the Montney.
The company is still posting negative earnings per share, but is
heading in the right direction. Its assets have low decline rates
compared to other plays. It operates a lean operation with low
overhead. It has some cash flow from the few wells that it has
producing. And its recent acquisition of Pennant allows it to
achieve greater economies of scale. Small companies always are
high-risk, but keep an eye on Blackbird and as it works to become
the next “great junior producer.”
Source: James Burgess of Oilprice.com
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