November 10, 2009

Exit from Peyto

I sold out of Peyto Energy @ $12.26 (35% return) due to changes in competitive structure of gas supply. Pipelines are raising significantly their fees to carry natural gas. This will spell increased operating costs for gas producers and will lower asset values.

Demand for natural gas occurs in the north eastern of this continent and supply, typically, comes from western provinces like Alberta. So transportation costs is big chunk. TransCanada pipeline will raise fees by some 50% next year, which will make western Canada gas uncompetitive compared to closer sources. In the past there was not many sources close to the northeastern market but now they are abundant. There is two new sources that can supply that market maybe at lower costs with transportation costs are rising signifiacntly:
  1. New shale gas basins that are coming online are much closer to northeastern states like natural gas from the mega Marcellus shale play that extends to west virginia, is likely to grow to 1.0 Bcf/d.
  2. LNG gas coming from overseas as Europe does not need as much gas as previous years due to economic slow down.
The reduced operating profits at gas producers as Peyto will lead to lower credit as bankers set credit lines based on estimates of their NAV or reserves in the ground. Those estimates are facing a double whammy: lower gas prices and higher operating costs. Many will see their credit lines reduces in March 2010 and will scramble for liquidity.

I will come back to Peyto as it is my favourite in the space once something changes in the fundamentals.


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Anonymous said...

I agree with your logic. There are probably other E&P companies in Alberta that are at a similar cost disadvantage. You have any other names that might fit that bill.

I also think it is worth taking a look at TransCanada. Looks to me like part of their pipeline may face a new competitive environment. Ping me if you would like to discuss more - I'm equityval at yahoo dot com

Sami said...

Encana have the same qualities of Peyto:

low cost producer
hedge book
but have a lot of its production in areas close to markets.

also what I like about it is the spin off from the oil business. spin off can be positive for companies as it focuses management on the core operations.