Response To The Critique of My Petrobank Analysis
I thought I’d give his analysis a review to see if I could learn anything. He certainly wrote in a tone that implied he could give me a few lessons. And any other analyst for that matter.
So I’ll go through his article point for point:
His valuation of Petrobakken. This is one of the publicly traded subsidiaries of Petrobank.
His calculation of Petrobakken value was done using the proved and probable reserves PV10 figure of $3.65 billion. He then took the PV10 figure divided it by the number of shares outstanding to arrive at a figure of $14.21 per share.
As the share price is just under $23 today he concluded that the shares are considerably overvalued.
To that he added the following “I know some will point out that they have some other assets, such as land which is not included in this analysis, but those assets are usually insignificant and don’t provide any cash from operations. “
Just to recap. His valuation of Petrobakken consists of taking the PV10 value of the reserves that have been booked and then just assuming that all of the other assets that aren’t included in the PV10 figure don’t have any value because they are “Usually insignificant”. I’d say that his analysis of Petrobakken likely took about 10 minutes in total.
And I have to say….are you kidding me ? This guy is making me out to be some sort of a hack and his analysis involves not bothering to look at any other assets that aren’t in the PV10 figure because they are “usually insignicant”. Some serious value investing there Mr. Graham, why be bothered with looking, just assume instead.
Since Mr. Graham can’t be bothered to look at these “other assets” of Petrobakken let me save him some time. Because unlike Mr. Graham I actually do bother to research companies before I write articles. Here is what was missed.
1) Mr. Graham missed two thirds of their Bakken assets. The 2P number which is all Mr. Graham used in his valuation work is derived only on wells drilled to date. Petrobakken has 1,050 drilling locations in the Bakken. The 2P number that you used is based on 348 wells drilled. That is 33% of their Bakken assets. The Bakken of course is a well known play, and these drilling locations are in the known to be in productive Bakken acreage. These are ultra low risk drilling locations. By ignoring them Mr. Graham is ignoring 67% of the value of Petrobakken’s Bakken properties.
Now maybe Mr. Graham is the only person who doesn’t think these other 700 or so drilling locations have any value. And if he does think that I can assure you he is the only one given the prices paid for undeveloped Bakken land over the past few years.
2) What about their Cardium assets ? Mr. Graham assigns zero value to the 120,000 undeveloped acres that Petrobakken holds in the Cardium. In fact he doesn’t even mention them. Don’t tell anyone, but I suspect it might be because he didn’t spend enough time researching to even know that these assets exist.
Let me get Mr. Graham up to speed. Petrobakken this year aggressively acquired land in the middle of what is turning into a highly productive Alberta Cardium play (listen to the recent PWE investor day) In fact Petrobakken is now the 3rd largest holder of Cardium acreage. In total they have 120,000 net acres and over 500 drilling locations. Petrobakken has zero dollars of reserves booked on these properties (because they are just starting drilling) so Mr. Graham has not given Petrobakken a dime of credit for these properties in his analysis.
3) Mr. Graham has also ignored two other significant plays that Petrobakken has. 350 conventional drilling locations in SouthEast Saskatchewan and another 400 in the Horn River play in British Columbia. By only looking at the PV10 of 2P reserves these assets have not been accounted for.
At this point I’m tempted to stop. Mr. Graham has missed the majority of Petrobakken’s asset value in his brief analysis. His analysis does not appear to have been performed by someone familiar with this industries and certainly no familiarity with companies such as Petrobakken or other Bakken holders like Crescent Point.
The value these companies created for shareholders was achieved when they got into the Bakken early, inexpensively and in a major way. Petrobakken appears to have added to this by doing the same in the Cardium. They have years and years of known drilling locations in these undeveloped acres. There is value in that there land boy, value.
Mr. Graham, those “other assets” that you can’t be bothered to analyze is where us value investors (and honestly anyone who follows the industry or reads the newspapers in Saskatchewan) knows hundreds of millions of dollars of asset lie.
Good grief. This valuation effort is worse. Again Mr. Graham takes only the PV10 of the 2P reserves into his valuation work. He clearly has not done more than a cursory look into Petrominerales.
Here are the key points about Petrominerales
1) Petrominerales is an exploration company
2) The company has had four consecutive years of production growth
3) The company has 2.1 million acres of exploration potential in Columbia
4) The company has 5.2 million acres of exploration potential in Peru
5) The company has identified 75 high potential locations
Petrominerales is a very difficult company to value I will admit that. Four years ago the company had a PV10 of basically zero. As they have drilled out their high potential and enormous acreage they already have established a PV10 of $2bil. How well would have valuing this company solely on a PV10 basis 4 years ago have worked out ? Terribly of course, because the value is again in the huge landholdings of highly prospective property.
Again. Most of the value in Petrominerales is in those “other assets” that Mr. Graham can’t be bothered to look at because they “usually aren’t worth anything”.
I don’t know about you but I bet 7 million acres are worth something. And given that this company has grown production by 100% per year for four years running I have to think they have a pretty good idea where they should be drilling.
Below is a link to an analyst report on Petrominerales. The analyst in question is Alan Knowles of Haywood Securities. Mr. Graham scoffs at all analysts as being utterly useless. Mr. Knowles has a $42 price target on PMG vs $25 today and Mr. Graham’s valuation of $17. I’ve followed Mr. Knowles for a long time and think he is exceptionally good at what he does. Compare his report that values this company at $42 with the two sentences of work Mr. Graham put in.
Consider that Knowles has actually been to Columbia and Peru to understand the value of these assets. Consider that Knowles follows every transaction that happens in the areas where PBG/PMG/PBN work. Compare that to Mr. Graham who spent an hour looking up PV10 numbers. Who do you really think has valued this company more accurately ?
Here is Mr. Knowles report:
Heavy Oil Assets
Here is Mr. Graham’s detailed analysis
“3) Heavy oil assets. Here, they don’t have any proven producing reserves in the report, but simply NPV10-BT of $367 million for 2P reserves. I believe some of these are coming online as of this year. These assets are held at the parent company level and PBG has no debt. The fully diluted shares outstanding is 110.2 million.
The Net Asset Value can be computed to be:
NAV10 2P = ($367 million + 0) / 110.2 million = $3.33/share (These are wholly owned by PBG) “
That is it. 690 million barrels of oil (and that is at May River alone and excludes Kerrobert and . Mr. Graham figures the value is $367 million. Petrobank provides a PV10 estimate of these assets in their presentation of about $3.3 billion.
But since they don’t have a specific development plan filed and thus no P2 reserves, Mr. Graham figures they are basically worthless. Again I think most value investors would not blindly follow specific PV10 figure, but apply common sense to determine that 690 million barrels of oil have value.
Whitesands alone is expected to produce 100,000 barrels a day for 30 years once developed. You can’t see that in any financial statements. You have to spend more than 5 minutes to fully understand the value of a company’s assets.
Here is Mr. Graham on THAI. Since he seemingly heard of the company this week through my article I’m amazed he can get his head around this complicated technology so quickly.
“4) THAI technology. This is interesting because Baytex and Shell Canada just sold their respective shares in the project to Petrobank. Since they are partners they know exactly how well the THAI process is performing. Why did they just sell? I would guess the results aren’t coming on as expected and both partners wanted out. It was interesting that Baytex didn’t even discuss in there last report. Ascribing a value is very difficult so I will give it a value of zero. “
This might be the most absurd part of Mr. Graham’s condescending criticism of my report. He says that because Shell and Baytex who are Petrobank’s partners on THAI are selling these assets back to Petrobank, that THAI must not have any value.
1) Neither Shell or Baytex have ANY interest in THAI. None. They were both partners in the production from the two properties that THAI is being tested on. So they would share in future production from these properties, they don’t share in the value of THAI. It is Petrobank that retains full 100% interest in THAI to roll out to other users.
2) Neither Shell or Baytex were the original partners on these properties. They acquired them when they acquired the original partners in other transactions. For Shell in particular the production that will come from Dawson is of no significance to them. They just got rid of something they never had any interest in.
3) Baytex is still a partner on the Kerrobert production. They are now a partner in the form of an override on production instead of a partner who has to come up with the up front capital to develop the property.
These transactions tell you nothing about THAI. The other parties only interest was in their share of production, and remember the property that Shell gave up can also be developed (less efficiently) using other technologies so they aren’t interested in it period. It is the property that the transactions involved not THAI.
Mr. Graham’s Summary
“Myself, as a value investor, I prefer to buy with a margin of safety. This investment clearly doesn’t offer and room for error on the reserves or the price of the commodities. Clearly a lot of arm waving is required to believe that these shares provide a margin of safety. Analyst reports are not worth the value of the paper they are printed on. Commit them to the fire. “
These seem like the words of a young overconfident investor. Have a look at the very simplistic analysis that Mr. Graham did on Petrobank which:
1) Ignores 75% or more of Petrobakken’s asset value by not considering undeveloped acreage
2) Ignores all of Petrominerales’ multi-million acre portfolio of highly prospective properties
3) Assigns no value to almost 700 million BOE of heavy oil assets because reserves have yet to be booked
4) Gets the facts of a recent material transaction completely wrong (suggesting Shell and Baytex had some sort of interest in THAI)
…and then compare it to the analysis of someone like Alan Knowles who has studied this company for years, has visited their properties in South America, Saskatchewan and Alberta and is familiar with every other company in Canada in this industry.
Mr. Knowles has a target of $75 for Petrobank. Mr. Graham who has spent a couple of hours on the company thinks it is worth less than $40.
I know which analysis of the two I would commit to fire. And it wouldn’t be the one from the guy with industry wide reputation as a top notch analyst.
But don’t take my word for it. Google Alan Knowles and read his research and see what you think. It is better than anything I can do.