Why You Should Go Long On Kodiak
Jordo is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Kodiak Oil & Gas (NYSE: KOG) is having a good year, despite what some might view as a dangerous debt load. There are a few yellow flags; for example, Kodiak's well cost midpoint continues to hover around $10.5 million, which is on the high end. However, as of the close of 2011, Kodiak had proved reserves of 52 mmboe, with an 89% weight towards liquids. This heavy liquids base is one of the reasons that Kodiak is doing well right now. Another is that with its current drilling program, Kodiak expects that all of its acreage will be held by production by the end of 2013.
As Kodiak Grows, So Grows the Competition
After moderate success earlier this year, Kodiak is keeping a drilling rig in its Dunn County prospect area, which is currently drilling on a two well pad. It is far more active in the Polar prospect area, where it has three drilling rigs expected to complete an additional seven wells in the third quarter of this year, most of which already have gas pipelines connected; oil pipelines should be following by the end of the year.
Kodiak is not the only one drilling in these areas. For one, Continental Resources (NYSE: CLR) has considerable acreage around Kodiak's prospects. It has been seeing huge gains recently, after having been upgraded from Hold to Buy at Canaccord. Kodiak's competition is about to get hotter, as Voyager Oil & Gas (VOG) recently announced that it is acquiring Emerald Oil to form a new U.S. based oil and gas producer out of the two companies' existing assets in the Williston Basin. Voyager and Emerald already focus on the Bakken and Three Forks formations, but through combining the companies hope to be better able to implement and manage multi-rig drilling plans, and on the fast track, too, since the firms hope to spud in Dunn County, North Dakota in early 2013.
The new company will operate as Emerald Oil, and will hold around 43,500 acres in the Williston Basin. J.R. Reger, current CEO of Voyager,will serve as the new company's Executive Chairman, while Mike Krzus, Director and CEO of Emerald Oil, will serve as the new company's Director and CEO. Both are experienced leaders that could put competitive pressure on Kodiak.
Earlier this year, Voyager anticipated that half of its acreage in the Williston Basin would be held by production by the end of 2012, and on an accelerated drilling schedule full HBP should arrive sooner. Though most of its current holdings are minority or non-operator interests, it does have substantial tracts under its control. It is producing 600 boe per day, which is small but still close to double its average daily production at the close of last year, which stood at 397 boe. This is similar to Kodiak's own growth rate, which must have Kodiak worried.
Emerald's entry to the Williston came just last February, when it purchased about 10,500 lease acres from North Plains Energy LLC, primarily within Dunn County. Like Voyager, many of Emerald's wells are non-operated, and include partnerships with Marathon Oil (NYSE: MRO) and Occidental Petroleum (NYSE: OXY), among many others. Marathon Oil has been very active in Williston basin, recently adopting 30 stage fracs. Occidental, meanwhile, has been in search of a better completion design in this area.
Until the merger with Voyager was announced, it seemed Emerald was content to rely on what it called "the experience of some of the most seasoned operators" on shale plays in the U.S. Now it appears that Emerald learned quickly and is ready to begin drilling on its own. The combined size of the new Emerald should give the company ample room for growth on its existing acreage, as well as leverage to purchase additional leases, which is what makes it a threat to Kodiak.
Northern Oil & Gas (NYSEMKT:NOG) is also emerging as a bigger threat to Kodiak on the Williston. Northern, like Emerald and Voyager, primarily moves on non-operated interests, but as the play gets tighter Northern may need to revise its strategy. It has $15 to $20 million earmarked to further acreage acquisition in each of the next two quarters. Its average daily production already dwarfs that of Kodiak, at 5,275 boepd, although that number also includes production from a handful of wells in which the two companies are partnered. Though Northern wants to continue building its positions as a non-operator, I think that building interest in the oil-rich Williston could move Northern to act on its own, at which point it could be a major competitor to Kodiak.
Outlook
Kodiak is currently trading around $8 per share, with a price to book of 2.3 and a forward price to earnings of 7.8. With no dividend in the near future, Kodiak must tempt investors with its prospects for growth by offering a strong reserve base, solid drilling plans, and a slightly better than industry average operating margin over the past twelve months, at 36.3% compared to 27.4%. At the same time, its net margin is lower (6.9% compared to an average 14.9%), and its debt to equity ratio is edging higher, currently at 0.7.
As second quarter earnings releases draw near, it should also be noted that Kodiak missed most analysts' expectations in each of the last two quarters. Though its miss was less severe in the first quarter of this year than it was in the fourth quarter of 2012, it was still a miss, and above average trading volumes on Kodiak may be suggesting that investors are preparing to short the stock ahead of another miss. Current surveys are showing an average analyst earnings estimate for the second quarter of $0.18, with a range from $0.12 to $0.25. Kodiak might or might not fall within that range, and if it does not, its recent gains could disappear in a hurry. However, Kodiak remains a solid long-term bet as one of the major operators on the Williston without significant exposure to natural gas. The key for the company will be growing quickly enough to keep up with its competitors.
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