On the Money: No Money, No Problems
Novus Energy might be a takeout target – or, it might not. Either way, it’s a good investment.
Jody Chudley is the author of The Punchcard Portfolio, a value-oriented newsletter with a focus on Canadian oil and gas stocks
by Jody Chudley
Novus Energy has a simple story, and is a company I thought was about to be sold at a nice premium for shareholders– including me. Last November, Novus announced that, “Due to the high quality of Novus’ asset base and the significant amount of industry interest and recent activity in the Company’s Viking oil core area of Dodsland Saskatchewan, the Board of Directors of Novus have struck a Special Committee of the Board to consider how to optimize shareholder value.”
“Value realization,” of course, means the company is ready to put itself up for sale and try and realize some profits for shareholders. This announcement of a potential sale wasn’t especially surprising, given that Novus CEO Hugh Ross had successfully built and sold Gentry Resources. But as we now enter the summer months more than half a year after the “value realization” announcement, one has to wonder if a sale of Novus is actually going to be completed.
Judging by the share price, it appears many investors think a sale is not going to happen. From $1.15 earlier this year when a sale seemed imminent, the share price has plunged to $0.80 as the excitement over a potential deal has turned to doubt. But while that’s bad news in the short-term for those holding Novus shares, I think that presents a great opportunity for long term investors. Now, don’t get me wrong – a sale of Novus may still happen in the short term. But if it doesn’t, well, that’s fine too, because this is a company that was selling itself because it wanted to, not because it had to. That is very different than the situation many debt-laden Canadian producers who are trying to sell themselves are facing.
Novus, after all, would have a bright future ahead of it as an independent company. It’s an oil-focused junior producer with production from the Viking play in Western Canada. The Viking’s low development cost (average wells run around $930,000) and fast payout ratio (1.5 years) are perfect for a small producer looking to grow through internally generated cash flow. The company’s management has a track record of doing just that, too. Most of the Novus management team was part of the growth story of Gentry Resources, an oil-weighted exploration and production company that over eight years grew from initial seed financing of $2.5 million ($0.22 per share) to $300 million ($4.19 per share) when it merged with Crew Energy in August of 2008.
Novus Energy might have even more upside than that. On its 220 net sections of land in the Viking light oil resource play, Novus believes that it has over 1,500 “risked” drilling locations. As more of that acreage is drilled up and delineated further, I expect the number of drilling locations is going to increase further. Not that it needs to, mind you. In 2012, Novus drilled 72 horizontal wells. At that pace it will take the company 20 years to drill 1,500 wells. That means there is a long window of growth ahead of Novus.
And growth is one thing Novus shareholders are already accustomed to. Novus has been growing production, cash flow and reserves at a rapid pace over the last three years. It has, for example, increased its proven and probable reserves from 2.5 million barrels at the end of 2009 to 22.7 million barrels at the end of 2012, and increased those reserves by 56 per cent from 2011 to 2012 alone – all of which came through the drill bit.
Strangely, though, Novus shares aren’t being priced for high growth by the market. The company is inexpensive relative to its competitors in the Viking and on any conventional valuation metric, be it enterprise value to production ($56,303 per barrel), enterprise value to proven and probable reserves ($10.13 per share) or enterprise value to cash flow (3.8 times). I think the valuation multiples relative to the runway of growth Novus has in front of it make the undervaluation here obvious.
That’s made even more obvious by a recent transaction involving assets right beside the acreage Novus controls. Last November, Long Run Exploration sold its Viking interests for $180 million. Those assets were producing approximately 1,900 barrels of oil equivalent per day. The proceeds of $180 million for 1,900 boe/day of production is $95,000 per flowing barrel – much higher than how the market is currently valuing Novus. If I apply that price to the 4,085 flowing barrels of production Novus has, I arrive at a share price for Novus of $1.63 which is twice the current price.
I own Novus and am hoping for a sale in the coming months at a good price. If instead we get an announcement of a termination of the “value realization” process with no sale then you can be sure that the share price is going to drop further. I believe that will present an excellent buying opportunity. This company is cheap, it is well run and can grow for years in a resource play that is perfectly suited for a junior oil producer. I’m long Novus shares.