I’ve currently got my portfolio stuffed to the gills with light oil producers that have been beaten senseless by Mr. Market over the past nine months. The companies are all executing as hoped, oil is near $100, yet many of these companies have stock prices that are within shouting distance of their prices when oil was $30 in early 2009.
Frustrating, but all part of the game.
One investment that I identified in May of this year and owned a small position in was Canadian uranium explorer Hathor Exploration (HAT).
Heading into this year I didn’t know anything about uranium producers. The Japanese earthquake and following nuclear situation created a huge sell-off in any company tied to the industry. So I started looking at companies to see if I could find something that was exceptionally cheap. I have been following the energy markets for some time and I felt quite confident that nuclear energy is not something that the world can do without.
As luck would have it, at the time when my eyes were looking towards the sector, one company, Hathor Exploration, released a piece of news that went virtually unnoticed by the market. The news was this:
“This new estimate identifies 30 million pounds grading 11.58% U3O8, and doubles the overall size of the Roughrider deposit, as currently defined.”
The company doubled the size of its only deposit and the share price hardly budged. Intrigued, I found the valuation work wasn’t too difficult to do:
- Roughrider is now estimated to contain 58 million pounds of uranium.
- Estimates for the “Far East Zone” are for another 12 million pounds which would bring the company total to roughly 70 million pounds of Uranium.
- Value per pound in the ground by the various analysts I see is about $7.
- As a reasonableness test of this you can compare to the acquisition by the company Uranium One of the company Mantra for an equivalent $10 per pound. Then consider that the property owned by Mantra is a much lower grade and is in the middle of a national park in Tanzania, not the Athabasca basin.
The numbers then are a very conservative $7 x 70 million pounds = $490 million
Perhaps a more realistic but still conservative $10 x 70 million pounds = $700 million
The company has a fully diluted share count of just over 120 million shares and a net cash position of about $20 million. 120 million shares x the current share price of $2.64 = $316 million.
I came up with a valuation range of $490 million to $700 million or $4.08 to $5.83 per share.
Not long after, Hathor got an offer for the entire company from Cameco (CCJ) for $3.75 per share. Below my valuation range but well above my $2.64 purchase price.
Management was not happy with this offer and went looking for other suitors. They found one in Rio Tinto (RIO) who offered $4.15 per share. Now at least into my valuation range.
But the game isn’t done as now Cameco is back with this offer of $4.50 per share:
This morning, as I write this, Hathor Exploration shares are actually up to $4.77, signaling that the market thinks that Rio Tinto will be back for another bid as well.
The point of all of this is that value investing works. First you have to find something that you actually have the ability to value. Then you have to wait for a purchase price significantly under your estimate of value. And finally you need the patience to wait for Mr. Market to realize the true value of your investment.
Look to Unconventional Producers in the Canadian Oil Patch for Easy-to-See Undervaluation
I’ve been parked in the Canadian oil patch for a few years looking for value. As I wrote above, right now the stock prices are extremely attractive.
And the nice part is that it isn’t hard to see for virtually any investor. That is thanks to recent transactions where entire companies have been swallowed by bigger fish for large premiums. Two very recent transactions were the Statoil (STO) acquisition of Brigham Exploration and the Sinopec (SHI) acquisition of Daylight Energy.
Take the multiples of current production, cash flow and booked reserves and go shopping. You will find that Mr. Market is valuing companies focused on resource plays much differently than oil companies do when making acquisitions.