Variant Perceptions

Category: liquidation

Update: Premier Exhibitions

Recent Mark Sellers interview where he comments on his plans with Premier and his life after Sellers Capital.

“In retrospect, I wish I hadn’t ever gotten involved in the company,” Sellers said. “If I can get out of it and break even or better, I’d have to say that’s a big victory.”

But it’s not that simple. At Friday’s closing price, $1.92, Premier’s market capitalization was about $89 million — far less than the appraised value of its Titanic holdings, which Sellers said is more than $145 million. Sellers said his fund’s investment in Premier is almost at break even.

But liquidating all that stock — the rough equivalent of about a year’s worth of trading volume — isn’t an option, since it would drive the price lower.

Key to Premier’s future and Sellers’ eventual exit from the company: monetize the Titanic.

With the 100th anniversary of the storied liner’s 1912 sinking coming up, timing is key. A well-publicized expedition to the wreck site in August helped stoke interest. A federal court ruling in August also provided some assurance that Premier couldn’t simply be stripped of its salvage rights to Titanic without a payment of about $110 million from the U.S. government.

“My plan is to make sure that the Titanic assets are well taken care of,” he said. “Whether they are held by Premier or held by someone else, I feel as though it’s almost a larger duty that I have. It’s an international treasure. I don’t want someone to piece them out and sell them on eBay or put them in a private collection never to be seen again by the general public.

“So I’m going to stay involved until there is some certainty about what is going to happen with those Titanic assets.”

Today, Sellers Capital controls 46 percent of Premier shares, representing the hedge fund’s only current investments. Once the Premier investment is sold off — Sellers makes no bones that selling the stock at a profit is his end game — Sellers Capital will cease to exist.

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Turnaround Cases: Penn Traffic ($PTFC)

Let’s make a break with the Premier Exhibitions series. While doing some well deserved procrastination, I crossed paths with Penn Traffic Co a supermarket chain filling for chapter 11 a couple of days ago.

Retail is combat sport. Having worked for a very successful and admired retailer I learned to never start a retail business and to avoid investing in one. Why not?

Another big problem with retail is the transparency of the business. Sam Walton spent thousands of hours inside his competitors’ stores. It’s virtually impossible to have any trade secrets in retailing. Your competitors can walk into your stores and, in about 15 minutes, understand your entire business-model advantage and how to replicate it. There are very few industries that are as openly transparent, and that’s problematic for the long-term investor. – Pabrai

Large retailers are constantly trying to pick the next good location while running out of space to grow, with the competition right behind them, and paranoid of the possible appearance of a new demographic trend. “Location, location, location” and “retail is detail” does not seem too much of a competitive advantage. Because of this, retail is a low margin business with little margin for error.

It is also a business that heavily depends on the trust and credit of its suppliers. Suppliers do not want to be the last one standing with distressed receivables so in difficult times retailers can suffer the equivalent of a bank run and swiftly collapse. This makes turnarounds in retail particularly difficult.

After that nice intro you might wonder what intrigues me about Penn Traffic. Actually, it is a very good case study of what you want to avoid in a turnaround investment: a marginal business in a difficult industry. But it may also be, and may is the key word, a liquidation opportunity. To get up to speed you can find a couple of good VIC reports here and here. (subscription free)

Penn Traffic is what I call an unrepentant alcoholic with their third trip into chapter 11: not an unusual record in retail. The reasons for their problems are the two Ws: Wal Mart and Wegmans, two of the strongest retailers out there. Meanwhile, Penn Traffic has to compete with a unionized work force and small stores in suburban locations (approximately 35K ft per store).

During their previous chapter 11 they sold Big Bear their crown jewel: a bad sign. Asset divestments are common in turnarounds but you want the company to sell their marginal assets not their core. If they were forced to sell their core assets, it is very probable that their marginal assets were un-sellable.

I would say that at its current stage, Penn Traffic could still be interesting as a liquidation play and as a potential case study on the margin of safety provided by real estate assets. It still owns 17 stores and 2 shopping centers whose value is not reflected in the books, with a market value probably north of $50 million.

However, we have also to take into account the long term leases. These can be undone or renegotiated in Chapter 11 but I would be much more comfortable if the company manages to sell those stores. In the case of Penn Traffic:


I have not done the heavy lifting yet. However with the leased stores shopped around, hidden assets potentially way north of $ 50 million and still reporting $15 million of book value there might be something there for a company valued at $15 million $1.5 million. Buyer beware, bankruptcy is a highly uncertain process and I am definitely no expert.

Would love to discuss this idea with readers more informed in liquidation plays.

No position

Valuation of Oil and Gas Reserves Part 1 ($CFW)

Inflation fears and surprising China activity has injected new dynamism on energy E&P stocks. Exploration and production (E&P) is all about finding and exploiting oil and gas reserves. Exploration is a risky hit or miss activity, like internet or biotech startups, and most big oil exploration efforts have been value destroying for their shareholders. At the same time, there are some good track records like Contango Oil and Gas and ATP Oil and Gas, that I hope to discuss in the future, and shale natural gas exploration had its share of successes too.

I will focus instead my attention in the production part of the equation and its main asset: reserves. Oil and gas reserves are a measure of the probability of future production using current technology and oil and gas prices. I will use Cano Petroleum a 79% oil E&P as an example. I own CFW but this is not a buy recommendation I am using it to illustrate the valuation process.

CFW Reserves

The first step is to collect the total reserves from the last 10K (yearly results), 10Q (quarterly results), corporate presentation, or in this case a recent 8K (material event). The booking of reserves is done according to a set of rules developed by the Society of Petroleum Engineers –SPE. The three categories of reserves generally used are proven, probable, and possible reserves:

  • 1P proven reserves : reasonably certain to be producible using current technology at current prices in a reasonable time frame (5 years). That reasonably certain definition is tricky, from what I could find the estimate should be close to 90% of being produced.
  • 2P probable reserves : reasonably probable of being produced. In oil and gas lingo, close to 50% probability.
  • 3P possible reserves : having a chance of being developed under favorable circumstances having a 10% certainty of being produced.

In the case of CFW, the study was done by a third party Miller & Lents, a known reserve engineering firm, and I could only find details on the proved reserves. Proved reserves are also qualified as developed producing -PDP, proved developed non-producing -PDNP, and proved undeveloped -PUD.

You are probably asking where is the disclosure of CFW’s probable and possible reserves. Any public company listed in the USA has to state its reserves with the SEC; the SEC in turn prohibits mentioning probable or possible reserves in their fillings. The oil and gas industry is not immune to disclosure abuses and we can not discount them in the future. However, several companies mention them in company presentations. The following is an example of Harvard Natural Resources –HNR- on its probable and possible:

HNR

CFW uses waterflooding, a secondary recovery technique, and a large part of its reserves are proved but undeveloped. During primary production the average oil field produces only 30 percent of the oil in the reservoir, a waterflood is often tried later. Some of the characteristics of this technique:

  • Capricious results and time consuming.
  • Investment upfront
  • Costs decrease over time

Reserve engineers assigned proved undeveloped PUD reserves based on recoverables of 8-9% for the Panhandle and the Cato fields. That is low if you look at some of the analogue field results like the East Schaeffer waterflood that recovered 15% and initiated back in 1966 with obsolete technology and tactics. We can see the Cato reserves are responding, moving reserves from PUD to PDP and increasing production

Crude oil production was up 6% as compared to the third quarter and 21% compared to the prior year fourth quarter due to increased production from the Cato Field.

The Panhandle, the firm’s largest operating area, is not. When CFW began flooding the Panhandle field it picked Cockrell Ranch that is surrounded by successfully flooded acreages. Management was too bold last year about how the Cockrell Ranch flood would perform and, besides the stock tanking, they have been sued.

But the third party engineering firm confirmed the reserves one month ago did it not? Is this a variant perception opportunity? It could be if the valuation provides some margin of safety and the risks are under control. In part 2 we will run some multiples and provide valuation sensibilities based on Cockrell Ranch potential results .

Disclosure: Long CFW

Cano Petroleum: the importance of catalysts ($CFW)

This is an excerpt from a Seeking Alpha article written a year ago. Value investors have a natural skepticism about investing in commodities. Specially at the top of the cycle. But remember, Buffett bought Conoco and when Munger wrote about his worst investment mistake this was his answer:

http://www.barelkarsan.com/2009/06/charlie-munger-and-belridge-oil.htm

Why resurrect this idea now?

  • The NAV discount has gotten only more extreme lately. I will show a proved developed analysis in a later post
  • Catalysts of course: recovery in oil prices, Cato is showing signs of life -Panhandle not yet-

While there is justifiable skepticism about Cano’s ability to convert its PUDs (proved undeveloped reserves) into production on a realistic schedule (hence the 90% discount), the 45% discount from PDP (proved developed producing reserves) is unheard of for a going concern with any kind of viable business model, let alone one with potentially very large PUD-to-PDP conversion potential. Cano did, at least, convert 1.4M Boe of PUDs to PDPs in the quarter, which is positive. Cano also recently did a large equity raise and is considering divestitures of non-core assets.

While the purpose of the equity raise and the potential divestitures is to fund capex at Panhandle, Cato, and Nowata, the question is the same as it has been for many quarters: can Cano’s management deliver? Cano’s enterprise value suggests that expectations could hardly be lower. Setting the bar this low also means that almost any kind of success – in what should be a highly predictable business model – would justify a significantly higher stock price.

via Cano Petroleum Misses Again: Crisis and Opportunity — Seeking Alpha.