Josh Young: Forget Commodity Prices; Invest in
Source: Zig Lambo of
Oil and gas prices may go up or down, but that doesn't bother
Josh Young, portfolio manager and founder of Young Capital
Management. In this exclusive interview with
The Energy Report,
he tells us why his key to finding potential winners in the oil
and gas (O&G) business is based on finding stocks with
attractive assets trading at a large discount to their intrinsic
values rather than particular commodity prices.
: AURORA OIL AND GAS LTD. - BRIGHAM EXPLORATION CO. -
EQUAL ENERGY LTD.
- GASCO ENERGY INC. - GASTAR EXPLORATION LTD. - GEOMET,
INC. - PETRO-REEF RESOURCES LTD. -
U.S. ENERGY CORP.
The Energy Report:
Since you last spoke with
The Energy Report
, the O&G markets have been pretty much sideways. What do you
think is going to happen in those markets over the next 6 to 12
My investments generally aren't contingent on specific commodity
prices. I do expect that oil will continue to trade in a range
and I think that natural gas prices are below the marginal cost
of production and should trend up over time. The types of things
I'm looking for are really mispriced situations where it doesn't
matter quite as much whether oil is $80 or $120/barrel (bbl.). It
only matters that a company is undervalued.
So, basically you're looking for bargains that are
undiscovered or unrecognized by other people. Is that
Yes, I try to find situations where a stock is cheap enough
at lower commodity prices that it would still be a good
investment and where an identifiable event is likely to unlock
substantial value in the near future.
We see all these references to various areas and geological
formations such as the Marcellus, Barnett, Bakken and Eagle Ford
shales. For those readers who aren't familiar with these areas
and names, maybe you could give us a quick tutorial that could
help to make references to them a little clearer?
Sure. I'll give them in the context of specific investments
I've made, which run the gamut across some of the better known
and more economic shale plays.
The Marcellus Shale is widely known as the most economic
natural gas shale play and one of the most economic natural gas
formations in the U.S. It ranges from West Virginia all the way
up through Pennsylvania into New York. Typically, wells there are
economic even at natural gas prices below $4/thousand cubic feet,
making them very favorable compared to other gas shale
I have exposure to the Marcellus Shale through an investment
Gastar Exploration Ltd. (
. Gastar is the cheapest way to play the Marcellus on a per-acre
basis and has over 15,000 acres in the core of the liquids-rich
portion of the play with over 83,000 total net acres in the play.
The company has some well results coming out soon from the
liquids-rich portion of the play that should highlight their
Switching over to oil shale, two of the most favored oil shale
plays are the Bakken oil shale up in North Dakota, which ranges
across northwestern North Dakota and eastern Montana and the
Eagle Ford Shale play, which ranges across much of southern
I have exposure to the Bakken through an investment in
U.S. Energy Corp. (
. In the early development of the Bakken a couple of years ago,
Brigham Exploration Co. (
, which is now one of the largest pure Bakken play companies in
the world. U.S. Energy has a fantastic position in, and is
trading at a large discount to its peers in the Bakken Shale.
Wells there, at current oil prices, earn anywhere from a 35% to
100% internal rate of return, depending on the specifics of the
well. Wells come on with very high initial oil production that
declines fairly rapidly, but the company gets paid back fairly
Similar to Gastar in the Marcellus, U.S. Energy is one of the
cheapest ways to get exposure to the Bakken and they already have
meaningful production and reserves. Eventually the market will
discover them and the stock will trade up in line with or
potentially in excess of its peers.
The Eagle Ford Shale ranges from dry gas in the south up to a
wet gas play with a combination of natural gas and oil or natural
gas liquids. Further north, you get pure oil production and very
little gas or natural gas liquids. I have exposure to the Eagle
Ford from a couple of investments. It is one of the most economic
shales to drill. U.S. Energy recently announced it is drilling a
few thousand net acres in partnership with Crimson Exploration
). The market gives them zero value for that acreage. The company
has completed one well, but hasn't announced the results yet.
It's in a really good area right next to a Chesapeake Energy
) well that did extremely well. I expect that U.S. Energy may
have some good exposure.
Some companies, like U.S. Energy, trade at a large discount to
their peers. Other companies trade at an extremely rich valuation
compared to their peers. One company that is comparable to a
company like U.S. Energy is
Aurora Oil and Gas Ltd. (TSX:AEF; ASX:AUT)
. Aurora has a small amount of acreage in the Eagle Ford, not
much more than U.S. Energy, and less than U.S. Energy has in the
Bakken and Eagle Ford combined. But Aurora trades for almost a
$1.5 billion valuation. So, compare a U.S. Energy, which is
getting almost no credit for its Eagle Ford and has a $120M
(million) valuation, to a company like Aurora, which is getting a
tremendous, almost $90,000/acre credit for its Eagle Ford
acreage. It definitely gets you excited about U.S. Energy's
Finally, any discussion of shale fields would be incomplete
without mentioning the Barnett Shale. The Barnett is one of the
original natural gas shale plays where the technique of drilling
horizontally and using multiple-stage hydraulic fracturing was
developed. I don't currently have any investments with meaningful
exposure to the Barnett. But, the Barnett is a really good
example of what to expect from other plays where a lot of small
companies were involved and as the play matured, were bought out
or consolidated or traded up to a fairly rich valuation.
Companies like Gastar and U.S. Energy could trade up to rich
valuations too or potentially be taken out as their respective
plays get developed.
You talked in April about
Equal Energy Ltd. (TSX:EQU; NYSE:EQU)
, which is an interesting Canadian company. Can you bring us up
to date on what has developed with them since April?
I still think Equal is trading at a very large discount to
its peers. It hasn't announced well results recently and there
hasn't been a lot of news flow beyond an acquisition and
subsequent equity offering, so the stock has languished. There
will be well results over time but there is nothing in particular
coming up in the near future, at least from an operational
There is some possibility the company could spin off one or
more of its assets into a royalty trust, which Chesapeake is
actually in the process of doing and SandRidge Energy Inc. (SD)
successfully did with the SandRidge Royalty Trust. If Equal
Energy went this route, it could potentially achieve a much
higher market valuation than it currently has. In the interim,
Equal could be a bit quiet for the next few months.
How about some where you think there is going to be some
action coming up that people can get excited about?
I've made interesting investments recently that I'm quite
excited about. The first one is a company called
Gasco Energy Inc. (GSX)
. The company recently completed an equity offering in which I
participated. It is a natural gas company with a field in Utah's
Uinta Basin, which is more of a conventional gas field play.
Despite having a small production base, the company needed money
to survive for the next 18 to 24 months while it develops the new
oil plays it thinks it found. I'm inclined to agree that there is
oil in place and that it will be recoverable. The company
currently has around a $30M market cap and $120M in debt. If
Gasco discovers oil and it is of the order of magnitude that it
expects, this could be a tremendous home run.
In California, Gasco developed a number of prospects and sold
them to a large, undisclosed, publicly traded company that is
active in California. This undisclosed partner is funding 100% of
the well cost on five different exploratory wells in order to
earn an 80% interest in the wells. Gasco gets to keep 20% without
having to pay for the drilling. That is very exciting for a small
company to be able to get exposure to some potentially 20 Mbbl.
or greater prospects and not have to pay anything for it. The
company expects to drill the first well in the third quarter of
2011, the second in the fourth quarter and the remaining ones in
2012. That adds a lot of upside potential from there.
Gasco's main gas field is actually in the Uinta Basin,
situated between Newfield Exploration Co.'s (NFX) Monument Butte
Field, which has been really successful as a conventional oil
play, and Questar Corp. (STR). Questar drilled an oil well in the
Green River block on the trend that the Monument Butte Field
produces from, immediately on the other side of Gasco's acreage.
Questar will be drilling more wells on their acreage. So, it
looks like there's an area that has been delineated by that
Gasco also has some old wells on that same Green River trend,
drilled in the 1980s, which had been producers for a long time.
Some of them are still producing a few bbl/d. It is very likely
that when Gasco drills a couple of wells on the Green River
trend, it will hit oil and those wells will be highly economic.
The impact of having an economic oil play could produce a
multiple times valuation uplift. The most I can lose is the money
I invested, but I could make five or ten times my investment.
That is a nice multiple for anybody. So, what else do you
I seldom buy debt, but there is a natural gas company in
which I actually own preferred stock. This preferred is
convertible and it's currently yielding 12.5% and trading around
par. The common is trading only 15% away from the conversion
price. It is a very undervalued natural gas stock that is out of
GeoMet, Inc. (GMET)
The preferred stock provides a margin of safety and pays me to
wait. If the company went insolvent or if there were some sort of
prolonged downturn, the preferred offers more protection than the
common. Plus, it pays 12.5% annually. If natural gas prices
recover, GeoMet could be worth two or three times what it is
trading for now.
I have done a lot of work on GeoMet and on the field it is
developing. The company had a problem in one of its fields where
its wells were not producing as expected. It changed its fracking
technique and it looks like it fixed the problem and could
potentially be looking at substantial additional reserves, which
are definitely not priced into the stock. There is a lot of
operational upside in addition to potential from natural gas
This has been a very illiquid situation and it was hard to
build my position. But, people really want yields and this is a
nice way to get this combination of yield as well as a chance for
a substantial equity return.
Well, it sure beats 2% to 3% in Treasuries.
It does, and GeoMet has meaningful natural gas production,
cash flows and reserves that backstop the value of the investment
and provide some potential inflation protection and exposure to
an improvement in natural gas prices. GMET is far and away my
favorite debt security at the moment.
Anything you like in Canada?
There are a couple of other companies that I own stock in
that are worth mentioning.
Petro-Reef Resources Ltd. (TSX.V:PER)
is one of the more promising junior oil and gas companies
in Canada that U.S. investors may not have heard of. It has a
conventional natural gas field where there appears to be highly
prospective oil zones above and below the gas zones from which it
is already producing. The July production rates are about 300
bbl. of oil plus about 700 bbl. of oil equivalent (boe) natural
gas per day. Their current enterprise value is about
Using a $100,000 per flowing bbl. of oil metric, you get the
natural gas production for free. Using a natural gas metric, you
get their oil for very cheap. In addition to being cheap on
current production, it looks like Petro-Reef is on the path to
meaningful rampup by drilling additional oil wells. It has around
a 20,000-acre position in an unconventional play in Canada called
the Swan Hills, where it has completed a well. The company is
still looking at the data and might actually lease a little more
acreage before announcing results. I invested on the assumption
that the Swan Hills play won't work. But, there has been a lot of
activity and positive well results in the area; it sounds like
the company likes what it sees. If the play actually works, it
will be a huge home run.
Do you have some other ones that you would like to talk
There is one more company that I have been involved with
off and on for years and built up a position in again, relatively
recently. It's called
Sonde Resources Corp. (SOQ)
. It has $50M in cash, no debt and a market cap of around $200M.
It is trading for around the value of its existing production. It
has a lot of unconventional acreage in Canada from residual
natural gas production that it is in the process of developing,
with a lot of un-booked upside.
Sonde recently sold one of its assets and repatriated the cash
to develop its unconventional oil acreage. It also owns a portion
of a recent large oil discovery on the border of Libya and
Tunisia. Prior to the problems in the Middle East, it looked like
this discovery could be worth hundreds of millions of dollars to
Sonde. The company said it was in active discussions with
potential joint venture partners to farm out some of its interest
to get carried in the development, or possibly to sell it. The
possible upside is in excess of its market cap and total
enterprise value right now. Development of the find is on hold
but the company has continued to study and delineate it. It
sounds like it is sitting on over 100 Mbbl. of oil in this one
discovery. And it has a tremendous amount of additional acreage,
where it will be able to explore for other prospects with similar
potential. So, this could be a real game changer that isn't
reflected in the stock price. Neither is the company's
unconventional acreage. Only existing production appears to be
There is potential upside whenever the situations in Libya and
Tunisia get resolved. Meanwhile, you get a great, undervalued
natural gas and oil company in Canada. Sonde also has well
results expected shortly from an area called the Drumheller,
which could be a meaningful driver. I have a lot of respect for
the Sonde's CEO, Jack Schanck. For a number of years, he was the
co-CEO of Samson Oil, a private company out of Tulsa and helped
the company get into North Dakota and a number of other areas. He
grew it from a smaller company to a larger, more successful
company before leaving to go off on his own. He has assembled a
team, some from Samson and elsewhere. I am very excited about
Sonde because it has quality management and you get to actually
invest at a substantial discount to net asset value.
Any final thoughts on what investors should be looking at
or concerned about in the coming months regarding the energy
market and what could be a catalyst to make it go up or down
A number of things could go wrong or could go right. From
my perspective, the important thing is whether you are in a good
company that is value priced like a U.S. Energy or an Equal, a
Gastar or a Gasco. If the company hits oil or sells an asset, the
stock is going way up and if not, the stock isn't. A lot of
really talented people out there are analyzing the macro-picture
and trading oil commodities. I focus on these small,
under-followed public oil and gas companies with attractive
Those all sound like pretty interesting and undervalued
opportunities. Thank you for taking the time to tell us about
I appreciate it. Thank you very much.
is an honors graduate of the University of Chicago, where
he majored in economics. Before founding his own investment
management partnership, he worked with Mercer Management in
Chicago, after which he joined a private equity firm in Los
Angeles. He also worked as a buy-side analyst and money manager
in a single-family investment office with more than $1 billion
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1) Zig Lambo of
The Energy Report
conducted this interview. He personally and/or his family own
shares of the following companies mentioned in this interview:
2) The following companies mentioned in the interview are
The Energy Report:
U.S. Energy Corp., Equal Energy Ltd.
3) Josh Young: I personally and/or my family own shares of the
following companies mentioned in this interview: Gastar
Exploration, GeoMet, U.S. Energy Corp., Equal Energy, Sonde
Resources, Gasco Energy, Petro-Reef Resources. I personally
and/or my family am paid by the following companies mentioned in
this interview: None.
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