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I love the new CAPS rules. I can now rate Cano Petroleum, a stock that could easily double from this level.

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July 28, 2010 – Comments (5) | RELATED TICKERS: CANO.DL

I would like to give a standing ovation to the fine folks at CAPS for changing the rules to the game so that companies with prices per share of less than a dollar can be picked.  Sure, there's always going to be people out there who try to game the system by shorting penny stock garbage, but there are a number of legitimate investment opportunities in legitimate distressed companies.

Here's one that the fantastic folks over at Above Average Odds Investing recently brought to my attention, Cano Petroleum (CFW).

 

I have truly evolved into a loser by playing CAPS because I love trying to come up with liquidation values for companies.  Here's a Company that I believe is trading for less than the value of its assets. 

I went long CFW in CAPS a week or two ago believing that the company's merger with Resaca might still go through and that even if it wasn't Cano's net assets were worth significantly more than the stock's current market value. It was so cheap that equity investors probably would have even made out well in the event of a bankruptcy.

Yesterday CFW rose 10% (today it has given back 5% of that) after it announced that it was pulling the plug on the Resaca deal because it believes that its assets are worth significantly more than it was scheduled to be paid through its previous merger agreement now that the credit markets have thawed some and the price of oil has stabilized.  

Cano Petroleum hires advisers to explore sale, merger

Cano Petroleum calls off merger, back on market

Now obviously when a stock gets this cheap, there's a very good reason :).  This company used enhanced recovery techniques to squeeze oil out of oil, tired fields.  It is my understanding that it has fairly old equipment that it is using to do so as well.  Add a ton of debt to the equation and you have one real mess.

The fact that Cano is so messed up is exactly why I like the situation.  I find special situations like this one absolutely fascinating.  Every stock has a story to tell.  The trick is to figure out the right ones to invest in.  If I'm going to invest in a non-dividend-paying stock the upside has to be excellent and there has to be some sort of catalyst that will trigger it. I hate just drifting around at the whim of Mr. Market without even getting paid to wait.

Several years ago Cano's share price was bouncing back and forth between $5 and $10/share. Today, the company with basically the same assets, or course with a lot of debt as well, is trading at $0.65/share.

I believe that the likelihood Cano it finds a buyer that will pay it more than its current price per share that is high. Even if it doesn't and the Company is forced to file for bankruptcy, I believe that its assets are worth enough that there is a good chance that owners of the company's common stock would realize a gain in the event of a liquidation.

Let's take a look at Cano's assets. All of this is rough, a back-of-the-envelope sort of analysis since I'm not really invested in this company and don't feel like spending the time to get really down and dirty with it.

If I am not mistaken, Cano has 49.1MMboe in reserves (7.7 MMBOE of proved developed producing reserves, 2.4 MMBOE of proved developed non-producing reserves, and 39.0 MMBOE of proved undeveloped reserves.) in the Southwestern U.S.

Let's say that we were to value those reserves at the uber-conservative rate of $3/boe (I have read that sales in that area have gone for $4 to $15/boe). 

That brings us to a value of $147.3 million for the company's reserves, not including any other assets that it has. We then need to back out the company's current liabilities, which according to Yahoo! are $115.5 million.

I believe that CFW has some preferred shares outstanding that might impact the liabilities portion some, but still using this rough estimate that still leaves $31.8 million for equity holders. CFW's current market cap is only $27.9 million. This seems like a reasonable margin of safety to me.

The question of course is whether the company's reserves are actually worth three bucks per barrel of oil equivalent. I honestly don't know. It's tough to peg a truly accurate valuation on such things by merely following a paper trail from afar. Someone who was in the industry, or in Texas might be able to find out though and hit a real home run with the stock. I tried to play it safe by using an almost unreasonably low valuation for the reserves in my rough valuation of the company's assets.

Of course, if the company is forced to file for bankruptcy it might not actually liquidate. One can never know for certain what will happen, but there looks like a large enough margin of safety here to give CFW a shot in CAPS. I had better be careful, I might actually talk myself into buying shares of this thing :). 

Someone over on Seeking Alpha has done a much more detailed analysis of Cano than this. I am being more conservative in my valuation, but the detailed one in the article is definitely worth a look (at the very least it is interesting for an investing nerd like myself).

Cano: A Closer Look at Valuation

Is anyone out there familiar with this Company or the valuation of oil reserves?  I'd love to hear your thoughts.

Deej

5 Comments – Post Your Own

#1) On July 28, 2010 at 11:42 AM, Momentum21 (84.91) wrote:

Here's one that the fantastic folks over at Above Average Odds Investing recently brought to my attention, Cano Petroleum (CFW).

Not sure about the "low-risk" part back in May but a little more compelling right now given that analysis and potential outcomes from here...interesting for sure...thanks for the post. I will see what I can find...  

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#2) On July 28, 2010 at 1:12 PM, CharlieBeLong (29.69) wrote:

Nice write up as always, Deej.  Truly, I look for your blogs every day.

Disagree, however, on the new CAPS rules.  It would be nice to get an update 12 months after the change took effect.  I'm curious as to how these "newly ratable" companies perform relative to the S&P.  My guess is that they terribly underperform. In which case, we've added a bunch of junk to prop up Caps scores with the infamous pink sheet red thumbs; but very little to benefit people learning to invest real money.

In any case, thanks for finding this potential gem.  It's analysis like this, that can convert this new rule into a win for Fools.

+1 rec.

 

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#3) On July 28, 2010 at 3:02 PM, TMFDeej (99.27) wrote:

Thanks for the kind words, Charlie and Momentum.

For whatever reason, I find myself being attracted to more thinly traded, small cap, and low price-per-share stocks lately.  I am long a ton of larger companies in CAPS and real-life as well, but I find these distressed situations fascinating.

I've given a number of distressed situations the thumbs up in CAPS over the past several months.  As you said, time will tell whether they will work out.  At least it will be interesting to follow.  Every one of these companies has a fascinating story behind it.  The key is to search around for the truth about a situation and to make an educated guess about how things will work out.

See you around. 

Deej 

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#4) On July 29, 2010 at 2:41 AM, TMFBabo (100.00) wrote:

@CharlieBeLong: TMFJake noted in the new rollout that the universe of rateable stocks on CAPS changed little, due to the fact that many illiquid stocks were removed as the more liquid stocks trading below $1.50 or having a market cap below $100M were added.  Considering that a similar number of stocks is still rateable and that the new additions are more liquid than those that were removed (providing more realistic real life trading opportunities), I like the new rules.

@TMFDeej: A rec as usual from me.  I look forward to your blogs as well.  It really boils down to the fact that I like your valuation style. 

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#5) On August 06, 2010 at 2:22 PM, ikkyu2 (99.36) wrote:

There's some oil near where I live - drive past the derricks on the way to work every day.  There's a landfill too, and apparently landfills generate methane under fairly high pressure; COP buys the methane from the landfill, injects it underground, and oil and methane come back out under pressure and are recaptured (well, mostly; there is a definite foul aroma over the land in that area.)  Everyone wins.

I drive to work, and look to my right, and see derricks pumping black gold; and look to my left, and see - fields, most of which are for sale.

How much oil is under those fields, I wonder?  Lots?  Some?  None?  I honestly have no idea.  If someone told me they had 'proven undeveloped reserves' of 3.0MMbbl - well, what do I know?  What do they know?  They haven't been down there.  And for all I know, if I bought those fields, COP could slant-drill my reserves away and I'd never know it.

So there's your risk, in a nutshell. 

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