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A short for value investors – Whiting Trust

February 04, 2011 | About:
This one's for MC.

Thesis

A very optimistic estimate of the cumulative future dividend of WHX is $225m. The company sells for $250m. In any case, WHX is certain to go to $0. This can reasonably be expected by 2017.

I use rough numbers because I don’t like calculators and spreadsheets. My numers are from the latest 10q and 10k. http://www.sec.gov/cgi-bin/browse-edgar?company=&match=&CIK=whx&filenum=&State=&Country=&SIC=&owner=exclude&Find=Find+Companies&action=getcompany


The company

Whiting USA Trust has no material asset other than the right to receive 90% of the net proceeds of some oil and natural gas producing properties in the Rocky Mountains, Mid-Continent, Permian Basin and Gulf Coast regions. After 9 MMBOE have been produced, the Trust will wind up its affairs and terminate. The 9 MMBOE are projected to be produced by 2017. Production is approximately 60% oil and 40% natural gas. The Trust distributes its earnings quarterly. Payments represent a return of investment (tax exempt !).


Intrinsic Value

This is my kind of DCF. The trust has roughly 5 MMBOE remaining; it started out with 9 MMBOE in 2007.

With oil at $100, 5 MMBOE is worth $500m.

The market cap is $250m. This implies a healthy double digit discount rate assuming it takes five years to pump up the remaining 5 MMBOE.

I can see why mr. Market is willing to pay $250m.


Wrong !

Remember the first half of 2008 ? Oil was at all-time highs; $130 - $140. Back then, the Trust distributed a record of 45m per MMBOE produced. At best, we can expect 5 x 45m = $ 225m for the 5 MMBOE remaining.

Those record distributions of 45m per BBOE were made at record prices for oil and a much better production mix (more oil, less gas). http://www.sec.gov/Archives/edgar/data/1417003/000095013408009256/d56799exv99w1.htm


Why the difference ?

In short, at $ 100 oil, 5m BOE is worth less than $ 500m if they're underground.

1) “Whiting deducts from gross oil and natural gas sales proceeds, all royalties, lease operating expenses (including costs of workovers), production and property taxes, hedge payments made by Whiting to the hedge contract counterparty, maintenance expenses, postproduction costs (including plugging and abandonment liabilities) and producing overhead.”

2) We didn't account for the fact that 40% of production is natural gas. A BOE of natural gas is about 60% cheaper than a barrel of oil.

3) We didn't account for the fact that the Trust has a right to just 90% of net proceeds.

I leave it to the reader to find a recent transaction of US oil reserves implying a value of more than $25 per BOE and that's oil not 40% gas. http://www.ogfj.com/index/article-display/6476170160/articles/oil-gas-financial-journal/volume-7/issue-10/deal-monitor/linn-energy-s-permian-basin-deal-is-month-s.html http://www.worldoil.com/Energy_XXI_to_purchase_GOM_fields_from_Exxon_for_1.01_billion.html


Intrinsic value II

We use a 5% discount rate to find the present value of that $225m…... let’s just say WHX is not reasonably worth a dime over $ 200m.


Mr. Market says this is a bet on rising oil and/or gas.

He’s wrong ! WHX hedges. Between now and january 2013 the price is capped at $145 per barrel of oil and $7 per Mcf of gas (=$42 / BOE). Oil must go over $200 for WHX to get that maximum hedged price of $145.


Risks

1) Oil could run up over $200 and stay there causing distributions to come in at record levels going forward. One could hedge this out with some 2015 oil futures….. arbitrage.

2) A short squeeze can be painful. Make sure you are in a position to make this an opportunity instead of a threat. Remember, WHX is certain to go to zero eventually.

The nice thing about shorting is that the 873465 risks I haven't thought of, invert.


Links

Even more bearish: http://www.citronresearch.com/index.php/2011/01/24/another-stock-only-a-computer-could-love-the-sequel/

Bullish: http://www.zacks.com/research/get_news.php?id=013l1139 http://www.gurufocus.com/news.php?id=90274


Any and all questions and comments welcome as usual.

Disclosure: I don't short.

About the author:

batbeer2
I define intrinsic value as the price I would gladly pay to own the business outright. With current management in place. For most stocks, that value is 0. As of September 2012, I'm the author of the monthly Buffett-Munger Best Bargains Newsletter. I can be reached at fvandenbroek AT gurufocus DOT com

Visit batbeer2's Website


Rating: 4.0/5 (23 votes)

Comments

graemew
Graemew - 3 years ago


I am sorry but I just can´t see why this company is worth zero, if it owns $500m of resources.
batbeer2
Batbeer2 premium member - 3 years ago
Hi Graemew

Thanks for the comment, no need to be sorry.

I'm not arguing the company is worth zero. Having said that, the units are certainly going to zero within a few years. It does limit the "downside" for a short.

IMO the resources aren't worth $500m. 5m barrels of oil are worth less than $ 225m today if they're:

a) not yet in the barrel

b) 40% natural gas.

The Trust has distributed at most $45m per BBOE since 2007. Mr. Market says it's going to distribute on average more than $50m per BBOE going forward. That's unlikely.
batbeer2
Batbeer2 premium member - 3 years ago
One more thing......

Whiting petroleum (not the Trust) sells for about 9B. 7.5B + 1.5B of debt.

230m BBOE of proven reserves and 75% of it is oil not gas. That's about $ 40 per BOE; ignoring other assets.

That's the same stuff in the same region in better wells operated by the same company.

Mr Market, sells us a barrel of reserves labelled WLL for $40.

On the same day, mr. Market will buy that barrel for $50 if the label reads WHX.
jim.falbe
Jim.falbe - 3 years ago
The problem with shorting something that pays out dividends is that I have to cough up the dividends... and that kind of changes the thesis here.
batbeer2
Batbeer2 premium member - 3 years ago
Hi Jim.falbe

In your view, are the dividends not accounted for in the thesis ?

WHX is technically hard to short; not many shares available; but that's another matter.

GNI is another one. The date for that one shutting down has been set. H1 2015. The yield is about 15%. Any risk to the business works your way if you short it.... do the math.
jim.falbe
Jim.falbe - 3 years ago
I am doing the math (and I am being conservative...), but lets say we go middle of the road and the dividend payout is 200m. If the stock is currently selling at 250m, that is a 20% return IF I hold it until it expires 5 or 6 years from now. That is a really poor annualized return for the risks that are involved. I do think you are right in that there is a slight margin of safety, I don't see someone really losing money on a short like this, but... I just don't know if it is worth the time.
batbeer2
Batbeer2 premium member - 3 years ago
that is a 20% return IF I hold it until it expires 5 or 6 years from now.

Excuse my round numbers.... the shares are all over the place.

Let's take plain vanilla short selling as I understand it.....

You sell 5 shares you don't own for $20. You collect $ 100. You slowly deplete that $ 100 "coughing up the dividends". According to my calculations you can reasonably expect to end up holding $20 by 2017.

The $20 is the numerator of the "return" what's the denominator; your invested capital ?
batbeer2
Batbeer2 premium member - 3 years ago
Again, I don't short.... I write this stuff to share, see what others think, and learn. I thank this forum and its members for the opportunity.
jim.falbe
Jim.falbe - 3 years ago
Well, just FYI. I am only allowed to short to a certain dollar value at any given time based on the other assets that I own.... So, shorts aren't just "free" money. The shares are technically "borrowed" from the broker that I am doing business with and I have to pay interest on that money or asset. (Think leverage) So really, the denominator is however much you borrow originally and the numerator is the difference between what you borrow originally and what you pay back at the end. In this case, you are borrowing 250 from someone who owns the shares and you plan to pay back (hypothetically) 200. That gives you the numerator of 50 (and this is assuming paying 0% on the borrowed 250). Does that help?
LwC
LwC - 3 years ago
I've read through the 2009 10K and the 3Q 2010 10Q, and FWIW here are a few comments about WHX:

-- The oil hedges are actually collars that put a floor of $74 and a ceiling of $140 on WHX's oil sales in 2011 and 2012. The gas hedges are also collars with a floor of about $6-7 during 2011 and 2012. Though the gas hedges have ceilings they are unlikely to be met. While the oil hedges allow for some variability in the pricing with the changes in the market prices, the gas hedges are actually a good thing since the floor is significantly above current market prices.

-- The price that WHX receives from oil sales are materially different from the NYMX quoted futures price since they receive a regional cash price. One should expect that WHX likely actually receives about $8-10 below the futures price (unless the field price is below the hedge floor or above the ceiling).

-- The actual reserves that the Trust is entitled to from inception was 8.2 MMBOE (90% X 9.11 MMBOE). As of the end of 2009 the estimated reserves that the Trust was entitled to was reported to be 5.433 MMBOE (2009 10K). During the first 3 quarters of 2010 the Trust's share of production was reported to be 1.021 MMBOE (from 3Q 2010 10Q). If one assumes that the 4Q 2010 production was similar to the 3Q production of .340 MMBOE, then the estimated Trust owned reserves at the end of 2010 was about 4.072 MMBOE (5.433 - 1.021 - .340).

-- Since there are 13,863,889 Trust units outstanding, each unit was the beneficial owner of an estimated .29 BOE of reserves (4.072 MMBOE / 13,863,889 units) at the end of 2010. At a current price of about $17/unit, an investor will be paying about $58 per BOE ($17 / .29 BOE).

-- WHX does not pay a "dividend"; rather, it pays a "distribution". IMO this could be an important distinction. The distribution actually consists of two components. For example, for a new investor, one component is a return of capital at the rate of $58 per BOE for the produced BOEs during the period for which the distribution is being paid while the other component consists of the balance of the distribution which represents the profit earned for producing and selling those BOEs (net oil price received after deductions less $58/BOE).

-- Average production costs per BOE for 2009 were reported to be about $17. This means that if an investor pays $58/BOE for the reserves and then pays $17/BOE to produce a BOE, then the BOE must sell for $75 to break even ($58 + $17). However this quick and dirty analysis does not take into account the difference between the current oil price and the current gas price on a BTU basis. IMO an investor considering WHX units would want to break out the oil and gas production and sales to understand the impact of the current market conditions on the analysis.

batbeer2
Batbeer2 premium member - 3 years ago
Thanks for your comments. I believe you are exactly right. Re your estimate of production for Q4 2010.....

1) reserves will have been depleted even further, yes.

2) They will have accumulated cash.... yet to be distributed.

So I think it would be even more precise to add back the cash if you deduct recent production.
kampkamp2
Kampkamp2 - 3 years ago


Just out of curiousity, what happens if they redrill? Whether or not it is a workover or new holes on the

existing properity and discover new finds that can and do add to production? I ask this due to all of the

new and advanced drilling equipment and techniques being developed.
batbeer2
Batbeer2 premium member - 3 years ago
Hi Kampkamp2.

After 9 MMBOE have been produced, the Trust will wind up its affairs and terminate. Mind you, this is not something I think will happen based on some estimate.... this is how this particular business was set up.

So.... if they produce more and quicker, this will only serve to hasten the demise of the trust. If memory serves, any value in the assets (reserves) after that basically belongs to Whiting Petroleum (the company, not the trust).

Thanks for your question.
kampkamp2
Kampkamp2 - 3 years ago
Thank you:

kampkamp2
batbeer2
Batbeer2 premium member - 3 years ago
FWIW, WHX now discloses what is known as the "standardized measure of discounted future cash flows projected to arise from production of proved reserves." In december, it was $ 105m before tax. That's the trusts only asset !

From the 10k http://www.sec.gov/Archives/edgar/data/1417003/000095012311025604/d80627e10vk.htm :



Standardized measure

$ 105,707


8< SNIP 8<

Standardized measure as of December 31, 2010. No provision for federal or state income taxes has been provided because taxable income is passed through to the unitholders of the Trust. Therefore, the standardized measure of the Trust and of the underlying properties is equal to their corresponding pre-tax PV 10% values.

batbeer2
Batbeer2 premium member - 2 years ago
My estimate for this trust to terminate was 2017. They now disclose their own estimate in the latest 10q.

The NPI will terminate when 9.11 MMBOE have been produced and sold from the underlying properties

8< 8< 8< SNIP 8< 8< 8<

reserve quantities are projected to be produced by November 30, 2015, based on the reserve report for the underlying properties as of December 31, 2010.


We have about 4 years of distributions remaining at roughly $ 3 per unit per annum. If it takes longer, the present value declines. The units sell for $ 18.

Why ?

1) The market prices the units like WHX produces 100% oil. In reality they produce 60% oil and 40% gas. This mix has a market value that's less than 100% oil.

2) The market prices the units like WHX is a going concern. It's not. WHX will wind up its affairs after it has exhausted its production rights.

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