This Oil Producer Is A Prime Buyout Candidate

Monday, October 13, 2014 - 1:30pm

by Jody Chudley

No sector has been more beaten up over the past few weeks than the energy sector.  The selloff has been even more severe north of the border where energy companies have been stuck in a down draft since the end of June.

This shouldn’t be a surprise to shareholders of these companies.  If you are going to invest in commodity producers, then you had better be mentally prepared to withstand some serious volatility when, not if, commodity prices take a drop.

Case in point: Canadian light oil producer Lightstream Resources Ltd. (OTC: LSTMF), which has had its stock price cut in half over the last three months despite the company's successful makeover of its balance sheet during that time.

Entering 2014, Lightstream knew that it had to get its financial house in order. The company’s share price was clearly being hurt by its higher leverage ratio compared to its dividend-paying peers. 

To bring its debt-to-cash flow ratio down to a level that is more in line with its peers, Lightstream released a plan to sell $600 million worth of assets by the end of 2015. The markets were skeptical that Lightstream could accomplish this, while also receiving attractive prices for its assets. The market was wrong.

Lightstream didn’t just sell $600 million of assets by the end of 2015.  Lightstream sold $729 million of assets -- 15 months ahead of schedule.

More importantly, the prices that Lightstream received were quite attractive.

Lightstream was able to sell 6,315 barrels per day of non-core production at a price per flowing barrel of $115,400.  I suspect that management even exceeded its own best expectations with this accomplishment.

Yet, the stock market hasn’t noticed.  After reaching a share price of $9 in June on the back of the first-announced asset sales, Lightstream’s shares have been caught in tough market for Canadian oil producers and now sit at an all-time low of $4.50.

I believe that the current share price is extremely attractive.  Evidence of that exists in the price received for Lightstream’s non-core assets. 

After the disposition program, the company is now guiding to 38,000 boe/day at the end of this year.  Using that production figure and the average sale price of the non-core assets that were sold ($115,400 per flowing barrel), I arrive at a valuation as follows:

Production -- 38,000 boe/day
Value Per Flowing Barrel -- $115,400
Lightstream Valuation -- $115,400 x 38,000 = $4.38 billion
Net Debt -- $1.5 billion 
Value for shareholders -- $2.88 billion 
Shares outstanding -- 200 million
Estimate of value per share -- $14.40
Upside From the Current Share Price -- 315%

Now remember the assets sold were some of Lightstream’s non-core assets.  The company’s best assets lie in its Bakken and Cardium light oil horizontal plays. To me that means that the $115,000 per flowing barrel figure should be a very conservative estimate for the value of Lightstream’s remaining assets.

On top of the upside that appears to exist in Lightstream’s shares, the company is also currently sporting a dividend yield of more than 10%.  Usually high dividend yields are a cause for concern about the sustainability of the dividend, but Lightstream actually has one of the lowest payout ratios in the industry.

This year only 15% of Lightstream’s cash flows are required to support the dividend.  That is less than half of what many competitors are paying out.    

Better still, as Lightstream’s production continues to age, its overall production decline rates decrease and less cash is required to sustain production. That means that additional cash can be directed at the dividend or to pay down more debt.

What I think Lightstream’s management needs to be concerned with is the fact that its shares are getting so beaten down that there is a good chance that a larger company is going to move in and make a bid for the entire company.

If competitors are willing to pay $115,000 per flowing barrel for Lightstream’s non-core assets, then wouldn’t a larger company be quite excited to gobble up the entire business for an even better price?

The big risk to an investment in Lightstream is the price of oil.  This company’s production is 80% weighted to oil and liquids, so its future is going to be dependent on receiving a decent price for that black gold.

I’m long term bullish on oil, so that makes Lightstream right for me.

Risks To Consider: Commodity markets move fast. If the price of oil drops and stays down for an extended period the value of Lightstream’s assets will also drop.

Action To Take --> Take advantage of the indiscriminant selling of Canadian energy producers and buy Lightstream Resources.

Jody Chudley does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.