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TriStar bought out at $14.75 – should we sell or hold?

Petrobank Energy and Resources (PBG-TSX; $35.97) announced yesterday it was creating a 37,000 bopd Bakken-focused oil producer by merging its Canadian Business Unit (CBU) with TriStar Oil and Gas (TOG-TSX; $11.51) to create a new company, Petrobakken.

The cash and stock transaction gives TriStar a value of $14.75 cash, a 29% premium over the previous 10 days weighted average price. For my Bulletin subscribers, it was a 35% gain in one month on TriStar, since I bought the stock at $10.70 on July 2, and profiled it in my second issue. (My second stock purchase from that issue is up 71%.)

Should investors take their quick profits or hold on? At first blush it has all the hallmarks of a Bulletin stock selection:

-oil weighted

-low cost, high profit oil

-large undeveloped land position – over 1300 low-to-no risk undeveloped well locations

-debt to cash flow ratio will be less than 1:1

But the global oil price has been on a steep rise while the economy still languishes and crude stocks in the US are up.  If the global oil price has a serious pullback, no stock will be immune.

The press release says the $14.75 offer is worth $3.75 cash and a 0.3989  Petrobakken share, or $27.57 in the new company (total value=$31.32 per TOG share).  Let’s take a quick look at what the pro-forma numbers for a Petrobakken valuation might show:

These are numbers from the press release and me:

Shares Issued                    172 million

Production                         37000 boe/d, 95% oil

Dividend                             $0.96/year

Debt*(my number)         $570 million (my number)

Annual cash flow              $702.2 million    (my number, based on US$70 oil and US$-CAD$ of 1:1)

*(They will have $950 million in debt before they sell off 9500 boe/d production in Alberta assets, 56% of which is natural gas. If they conservatively receive $40,000 per flowing barrel (I see that several junior producers with 50/50 gas/oil production are trading at an average enterprise value of $42,000) they would receive $380 million, leaving $570 million debt.)

What should this company trade at? My numbers show Tristar was bought out at $2.73 billion, or $109,200 per flowing barrel, so it should not trade for less than that – otherwise, why merge? As of July 31, BMO Nesbitt Burns shows Crescent Point’s (CPG-TSX) trades at about $155,000 per flowing barrel. Crescent Point is the best comparable as they have similar production levels, costs and dividends.

Management believes their $0.96 dividend will be 3%, which equates to a $32 share price.  The valuation of my remaining stock in the new company is $27.57, so if this $32/share valuation makes sense, I will hold it.  This gives the company a market cap of $32 x 172M=$5.5 billion, and an enterprise value (market cap $5.5 B+ debt $570M) of $6.07 billion.

Divide that by 37000 boe/d production and you get a valuation of $164,162 per flowing barrel.  Petrobakken will be 5% gas, and CPG has 13% gas, so that incremental value makes sense, but I would suggest there is not much room in this metric for increased valuation.

Another metric the industry uses is Enterprise Value over Cash Flow, which my numbers show 8.6x for the new Petrobakken.  This is just above average in the Canadian oil patch – but the comparables are mostly gas weighted companies.  I would easily expect the heavily oil weighted Petrobakken to get a 10-11x multiple.  So even at $32/share, I think there’s room for an increased valuation.

On a cash flow basis, my $702 million annual cash flow divided by 172 million shares=$4.08 cash flow per share. $32 would be just under 8x cash flow, compared to Crescent Point’s 8.5-9x. So there is room for increased valuation there too.

SO….CONCLUSION…I hope you were able to stay with me through all those numbers.  I’m holding my stock, now valued at $27.57, because even at $32 – another 16% for me and subscribers who bought TOG – the stock appears to have some valuation room, even without growth.

As long as the global oil price doesn’t fall into the toilet again – which I see as unlikely (this market is not just about fundamentals!) – then Petrobakken’s growth should get recognized in the market over the coming years as these 1300 low cost, undeveloped Bakken locations get drilled.  The new trading symbol will be PBN:TSX.

Really, what these two companies have done with Petrobakken is give North American institutional investors a second way to play the Bakken, after Crescent Point Energy.  CPG has slightly more production, slightly lower costs, slightly higher dividend than Petrobakken.

Again, well done subscribers.

Lastly, I leave readers with a question:  What Canadian listed junior oil company is one of the last significant Bakken players, sits debt free, and is likely the next takeover candidate?  Subscribe and find out!

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