lotsofmojo (99.57)

Small Oil Hypergrowth

June 24, 2009 – Comments (2) | RELATED TICKERS: CFW , RAME , WRES

Due to the severity of the recent market crash, the small oil companies took some rather big hits. Some were extremely leveraged and have gone bankrupt, such as TXCO.

On the other hand, some highly leveraged small oil companies have their loans backed up by substantial proved (i.e. not probable that still needs to be found) reserves with a significant oil composition. RAME (53% oil), CFW (77% oil), WRES (47% oil), and PLLL (64% oil) fall into this category. In fact, they’re at the top of the list. While these companies primarily have properties that are in the secondary phase of oil production, the additional $15-$25 recovery cost per BOE won’t matter very much when oil is at $100 or more several years from now.

Because of high leverage, these companies give you a very big bang for the buck. Not only are they giving you the opportunity to buy oil at a substantial discount, they’re loaning you money to buy more. The value of these deeply undervalued companies should climb quickly as they develop their resources and the price of oil goes up. This translates into hypergrowth.

The caveat is that they have to stay in business. RAME and PLLL are probably the most leveraged companies with similar enterprise value (EV) to market cap (MC) ratios. The management at RAME seemed to be confident and on good terms with lenders during the last conference call and in the annual report. Considering 36 MMBOE of proved reserves relative to debt level, this seems plausible.

On the other hand, the management at PLLL seemed to be less positive and very much into hunkering down during the last conference call and in the annual report. The analysts seemed to be somewhat concerned during the call about PLLL’s financial status. With 33 MMBOE and higher EV and MC numbers, this makes sense. Although it has bad natural gas hedges and basically no maneuvering room left on its credit line, PLLL should be able to remain in business. It may need to do a share offering, but it should survive.

Because PLLL is a little shaky, I recommend considering only RAME, CFW, and WRES right now. ATPG is also one to consider with similar reserve to debt value. Note, ATPG is an offshore company with significant infrastructure and is therefore a different beast. Keeping in mind that oil stocks have consistently appreciated over decades, the recent market crash has produced some very rare opportunities.