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Chinese Wanted a Bigger Piece of Penn West

October 26, 2010
CanadianValue

CanadianValue

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I have written a few times in the past about the conundrum the world is facing in the coming decade.

Ever rising oil demand from China and the rest of the developing worlds meeting the decline in production from the super giant oil fields that have carried us for decades. Rising demand, falling or at best a high water level in supply. It might not be pretty.

I've also written a few times about what I think is a great opportunity to invest in a company that is likely going to see very significant reserve growth in the coming five years due thanks to technological advancements in horizontal drilling. The company is Penn West. I recently spent 4 hours listening to their investor day presentation and believe this sleepy giant is about to awaken.

Here are the prior articles on PWE

http://www.gurufocus.com/news.php?id=108311

http://www.gurufocus.com/news.php?id=106643

http://www.gurufocus.com/news.php?id=105574

A simple review of Penn West comparing the PV10 value of its reserves against its enterprise value might lead you to believe that the company is fairly valued. What you would be missing is that 98% of its reserves are booked assuming traditional vertical drilling. What companies in the Bakken and in the Cardium are proving is that horizontal drilling is a game changer for these low risk plays.

As Penn West rolls out its aggressive horizontal drilling campaign on the Cardium and other assets this company is going to have considerable reserve growth as it proves that more and more oil can be produced from these plays.

Interestingly the Chinese wealth fund CIC that this year bought into Penn West actually was looking for a much larger stake than they eventually got. I found the article below from which discussed the actual desire of CIC for more PWE. I guess they think like me a little bit in that they want to invest in oil and think PWE is a good long term investment.

Full disclosure, the stock price of PWE is up about 15% since I started writing about the company. I still think it is a good value, but likely won't add unless it drops back again. I obviously own shares of PWE.

"By Dan Healing, Postmedia News October 20, 2010

CALGARY — The Chinese sovereign wealth fund that agreed to inject $1.25 billion into Penn West Trust last spring originally wanted an even bigger chunk of the company.

Behind-the-scene details of the novel joint venture announced by the Calgary-based energy trust in May with China Investment Corp., one of the largest such funds in the world, emerged during Penn West’s investor day Wednesday.

"The hard part of that deal for the longest time was that CIC wanted a much bigger position than what they wound up with," noted chief financial officer Todd Takeyasu in a presentation to financial analysts and investors.

"They came in looking for 10 per cent. They came in looking for a board seat. It took some very good negotiations . . . to get them down to approximately half of what they wanted."

The result was that CIC agreed to pay $817 million for a 45 per cent interest in a joint venture to develop Penn West’s Peace River oilsands assets, along with an additional $435 million to take a five per cent equity stake in the trust itself.

Penn West, which was producing about 2,700 barrels per day at Peace River, has approvals for a commercial pilot that will see output jump to 10,000 barrels per day by the end of 2012.

Takeyasu said the deal allows the trust to advance a project that wasn’t a high priority.

"On the first approximately $1 billion of development and appraisal and steam pilots and everything else . . . Penn West’s share of the capital is only $56 million, so it’s a compelling deal," he said.

Hilary Foulkes, senior vice-president of business development, who helped negotiate the deal, said it came to Penn West via investment firm Mackie Research Capital, which was working on behalf of CIC to find oil assets.

"(CIC) was looking for an equity investment in the company and we were reluctant to go down that road to begin with," recalled Foulkes.

"But we also had a world-class heavy-oil asset they were interested in and obviously the Chinese have a great deal of expertise in that world from a technical perspective."

She said CIC has been a terrific partner so far. Technical staff are in Alberta this week to tour the site and look at core samples.

"It’s a very collaborative, co-operative joint venture," she said.

In August, the trust announced an $850-million deal with Japanese industrial giant Mitsubishi Corp. to develop Penn West’s unconventional natural-gas properties in northeastern B.C. through a 50-50 joint venture.

Foulkes said that deal was set up by a Calgary company hired by Mitsubishi to find natural-gas opportunities. The Japanese partner agreed to pay Penn West $250 million for existing assets and fund $600 million of the first $800 million of exploration and development expenditures to earn its 50 per cent share.

"These are all very long gestation, as you can imagine. These deals don’t happen overnight," said Foulkes. "They can take upwards of a year or a little more to actually come to fruition

"Like any deal that you would do with a North American company, there’s a lot you have to learn about each other in terms of relationships and co-operation."

Canadian companies are increasingly looking to Asia as a source of development funding for unconventional oil and gas properties. In March, Encana Corp. signed a $1.1-billion unconventional gas deal with the Korea Gas Corp. and in June reached a framework agreement with Chinese National Petroleum Corp. to develop shale gas in B.C.

In April, Chinese refining giant Sinopec bought ConocoPhillips’ nine per cent stake in Syncrude Canada for $4.65 billion.

Penn West chief executive Bill Andrew confirmed Wednesday that the company will continue to focus on light oil, with 85 per cent of its proposed $1 billion to $1.2 billion 2011 capital budget to be spent in that area.

"We find ourselves now with a favourable breeze at our back because of where light oil is and we’d like to think that if it was going the other way, and gas was strong and oil was weak, we’d still be in very, very good shape," he said.

Penn West plans to spend about a third of its budget on the massive Alberta Cardium, a light oil play that has been tapped for decades with vertical wells but is enjoying new popularity thanks to horizontal, multi-fracture well technology.

Penn West is to will convert to a corporation from a trust this year."

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CanadianValue
http://valueinvestorcanada.blogspot.com/

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