Diversified Gas & Oil DGOC Buy Rationale

Tweet

THIS IS NOT A TIP OR RECOMMENDATION. I AM NOT A TIPSTER. PLEASE DO YOUR OWN RESEARCH. PLEASE READ THE DISCLAIMER ON THE HOME PAGE OF MY WEBSITE. IF YOU COPY MY TRADES, YOU WILL PROBABLY LOSE MONEY. I HAVE A VERY LARGE PORTFOLIO AND I USE DIVERSIFICATION TO SPREAD RISK ALONG WITH TRICKS LIKE HEDGING AND OCCASIONALLY BY THE USE OF STOPLOSSES - IF YOU BUY ANY STOCK YOU REALLY SHOULD FOCUS ON HOW IT FITS IN YOUR PORTFOLIO AND KEEP RISK MANAGEMENT AT THE FOREFRONT OF EVERYTHING YOU DO. BE AWARE THAT ALL INVESTORS/TRADERS GET THINGS WRONG AND MANY STOCK SELECTIONS WILL WORK OUT BADLY - MAKE SURE YOU UNDERSTAND THIS.
Back on the 1st March 2017 I bought a Long Spreadbet on DGOC equivalent to about 2% of my Portfolio Value. This is a recent IPO which listed about 5 weeks back on AIM and I think it is pretty unique and I am very pleased to have been able to pick it up at 64p via a Spreadbet -which is slightly less than the Float Price of 65p.

Regular Readers will know I am no fan of all this tiddly AIM Resources bile that tends to part the Inexperienced from their Money and takes some very rare and special Skills to be able to exploit successfully - a few People can do it but I find it just doesn’t suit my temperament and approach. However, I am not totally averse to Oil and Mining Stocks but I tend to stick to my usual Low Risk style and go for the Big Stuff like RDSB and GLEN. However, I do have a bit of a taste for Oil Plays that are a bit more ‘Mid Cap’ in their nature and have done very well in the past with Stocks like Venture Petroleum VPC (now part of Centrica CAN), JKX Oil & Gas, Dragon Oil (DGO) and the Oil Services plays like Petrofac PFC, Hunting HTG, Cape CIU (which I still hold but it is a bit unpleasant at the moment !!) - and I have had my eyes scanning everywhere to see if there was something interesting but up until I tripped over DGOC I hadn’t really found anything to get me excited enough to stick the WheelieMitt in the WheeliePocket.

DGOC operates in the US but according to Investors Chronicle it listed on AIM due to access to Institutional Investors, Bonds already listed in UK on NEX Exchange (just changed name from ISDX, formerly Plus Markets and OFEX) and Directors felt DGOC would be overlooked on the US Markets due to its relatively small size (Market Cap about £61m).

Anyway, I’m not in the mood for a lengthy, detailed, Blog and this is a pretty simple Company to understand, so I will just focus on the Pluses and Minuses and gives some thoughts on the Chart situation (er, extremely simple as there isn’t much Chart History to go on) and things like Valuation and Targets. To kick things off, here is a link to the Company’s Website:

http://www.diversifiedgasandoil.com/

And arguably the most useful document is the AIM ‘Admission Document’ which can be found as a PDF here:

http://www.diversifiedgasandoil.com/wp-content/uploads/2017/02/17.01.30-DGO-Admission-Document-FINAL_WEB.pdf

There is also a useful interview here from Proactive Investors with the Top Dog, Rusty Hutson (no, he is not a Chocolate Labrador - I swear my Old Man had a Dog called Rusty many moons back):

http://www.proactiveinvestors.co.uk/companies/stocktube/6849/diversified-gas-oil-lists-on-aim-and-raises-us50mln-to-accelerate-growth-6849.html

Stuff I like about DGOC

• Operates in the Appalachian basin in the US which I understand is in States like Pennsylvania, Ohio and West Virginia - unlike so many other Oil and Gas plays on the Market, this is relatively Politically stable - The Donald notwithstanding. Most Resources plays are in highly dodgy places like The Middle East, African, Siberia and nearby - it is extremely rare to find a decent Stock in a safe country which has niceties such as Land Rights and no current Wars.
• One of the biggest attractions for me is the basic premise that DGOC is due to pay a Dividend of 6% on the IPO Price of 65p - this is unbelievable on such a Stock and when you throw in the fact it has a Market Cap around £65m. As I will explore more in my ‘Valuation and Targets’ bit below, I reckon this means DGOC is extremely cheap as it can be seen as an ‘Income Stock’ but also has some pretty impressive growth prospects - so I think we could see a lot of upside and benefit from a nice rising Divvy over time (the Directors have stated their intention to have a “Progressive Dividend Policy”).
• DGOC is a Gas Producing Company in the main (90%) but also Produces Oil from its Wells. It has over 7500 Wells across more than 1 Million Acres of land and these are very low volume ‘Nodding Donkey’ operations with very long lives - on average 50 years !! This means very predictable Output and low maintenance. In 2016, DGOC delivered a low average operating cost of $9.53 per barrel, and believes this can be reduced further as the company achieves scale through consolidation.
• DGOC specialises in buying these low volume Wells because the ‘Big Boys’ in the area are after the Shale Gas and Oil which lies below the Conventional Reserves that DGOC wants. In order to fulfil the obligations of their Permits, the Big Players have to pump the Conventional Stuff out of the ground but they are really not interested so they sell the Rights to small specialists like DGOC. This is a mutually beneficial arrangement and means that DGOC is picking up Wells for very low Prices.
• The growth potential here is very exciting - it can come from 2 ways. Firstly, as a result of the Funds gained at the IPO, DGOC now has no debt and has a Credit Line up to $35m - this will be used to Buy more Wells and already DGOC has a few deals lined up and ready to go - so I expect to hear news on this in the coming Months and this should help create a catalyst to push the Shares up. Secondly, DGOC has the ability to do ‘Infill’ Drilling on the Acreage between the Wells it already has the Rights to - and to show how good they are at this, since 2001 the Company has drilled 150 new Wells and has NEVER had a dry one !! That is an incredible record and shows how switched on these guys are. Note the Divvy Yield of 6% is based on existing Cash Flows and takes no account of any new Wells that are brought into operation.
• The Main Man, ‘Rusty’ Hutson Jr, was a Founder of the Company and owns over 38% of the Shares but all existing Shareholders at the Float are tied in from Selling for 18 Months I think. In addition, Henderson and GLG Partners are both invested here.
• I’m a big fan of new IPOs. Conventional Wisdom (more like Kahneman ‘Fast Thinking’) is that IPOs are bad news but this is so, so wrong in my view. Yes, many IPOs are shocking but it is nearly always where the ‘Business’ is an unproven concept and the Directors are using YOUR MONEY to experiment with the idea and you can guarantee that if it works then they will take all the gains - not you. The IPO Winners are ones where there is already a solid and established Business that clearly has a history of achievement and this is certainly true of DGOC. The big beauty of things like this is that they can appear on the Market with strong Balance Sheets and the potential to grow fast as they do a few Bolt-on Acquisitions. On top of this, they often get floated at an attractive Price and go ‘under the radar’ of the vast majority of Traders/Investors for quite a while and as they slowly start to learn about the business we can see excellent Price rises. Think about it - if many of these concepts were any good then Private Venture Capital type Investors would be in before you - the simple fact they cannot get such funding is a big clue that they are pretty rubbish and you will most likely get nastily burnt. Think like a Dragon from the Den………
• The Trumpster is bigly enthusiastic about Shale Oil & Gas and really doesn’t seem to give a Monkey’s about the Environment or “all that Green cr*p” as ‘Call me Dave the Cameroon’ would put it. As a result, expect a huge Boom in the US Oil Industry and very attractive Tax Breaks and suchlike.
• DGOC operates in one of the longest running Oil Areas in the US - as such, it has excellent Oil & Gas Transportation facilities and Infrastructure - DGOC say they have no problems with such logistics to get their Output to market.
• DGOC has a large Reserves base and the Broker Mirabaud Securities puts the Risk Weighted NAV at 70p according to Investors Chronicle at current Gas Prices of $2.93mcf and this rises to NAV of 101p at $3.50mcf which is forecast for 2018.
• The ‘Nodding Donkey’ type of operation here is probably about as low risk as you can get in the Oil & Gas extraction world - compared to something at the high end of Risk like an Offshore Deep-sea Rig in somewhere like the North Sea it is a doddle - and of course because DGOC owns so many wells, problems at individual wells will have little impact on the overall estate - so we shouldn’t be seeing problems here like with the BP. Macondo Oil Spill.
• According to Rusty, DGOC operates in a very heavily operated and long established region for Oil plays and as such it has excellent Infrastructure in terms of Shipping etc. for getting Gas and Oil to market.

Stuff I ain’t so keen on (The Risks)

• The most obvious Risk is around the Oil Price and the Gas Price. Both of these have been very volatile in the last couple of Years and big falls in these could be troublesome. DGOC uses Hedging for its Production but from memory I think it covers around 50% of its Production this way. However, it is worth appreciating the strength of DGOC Balance Sheet which will be a big help in any downturn and also they have been going since 2001 so will have experienced many swings in the Prices of their Resource. The Founders are also long standing Oil Guys.
• DGOC is in competition with other similar small players to buy these Conventional Assets - if they are unable to buy at sensible Prices then their growth strategy could be in jeopardy. However, the Founders are clearly well established bods in the Industry and are probably able to exploit relationships they have built up over many years.
• As with anything decent, there is a big risk that DGOC may get taken over - obviously this would probably be at a Premium to the 64p I bought my Holding at but this might merely be a quick short term gain which puts a big grin on my face on the morning of the deal being announced but when the dust settles I may realise that a great Asset has been stolen off me - this recently happened on Netplay NPT which was a total joke.
• The Founders, our old mate Rusty and Robert Post in particular, seem to be Key Individuals and there are most likely other critical members of the Team - loss of any of these might be a problem particularly as Relationships within the Industry are probably quite important.
• All Resources type operations are dangerous places and Health & Safety is critical - any injuries and in particular fatalities at DGOC operations would be problematic in terms of lost production, legal action for compensation and potentially enforced closure of operations.
• Despite the US being a politically stable place, the Election of Tango Man has polarised opinion in the country and mobilised many Protest Movements on the Left - it is highly possible that we see Environmental Protests in Shale Oil and Gas locations - this could disrupt DGOC business.
• Please note there is a full list of ‘Risk Factors’ in the Admission Document on page 28 which I provided a link to above.

Valuation and Targets
We already have the Mirabaud Securities’ NAV figures I mentioned earlier but I prefer to just fiddle about with what we already know (why does that remind me of Keith Moon and Uncle Ernie?) - quite simply, I think a 6% Dividend Yield at 65p is way too high and if this was to fall to merely 4%, that would imply a Target Price of around 96p - let’s call it a Quid for cash……And remember this Divvy should steadily rise over time so perhaps the Share Price could be hugely higher in a few years.

That seems easily doable to me and if we then consider the likelihood of more Wells being bought and coming into production and the possibility of a higher Gas Price and maybe something like 120p is not daft with a bit of patience. In fact, that sounds very conservative to me.

The Chart
There’s not really a lot to say here as there is so little Data. So far I have just bought a reasonably sizeable Position (the Horizontal Blue Line marks the Level I bought at on a Spreadbet at just over 64p) but I am keen to add a little bit more - I would be particularly excited to move on them if we get a decent EOD (End of Day) Close up above the 68p High that has been achieved so far.

Hopefully that gives a brief overview of DGOC for Readers and my thinking behind buying in.

Cheers, WD.

---

---