Catching Up With Two Favorites

 | Nov 22, 2013 | 11:00 AM EST  | Comments
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Stock quotes in this article:

cpk

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grh

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mhr

I had the pleasure of attending the DUG East conference in Pittsburgh last week and the massive production potential of the Utica shale defined the zeitgeist. From mega-drillers (Chesapeake (CPK) has the most wells currently operating in the Utica) to small exhibiting companies that perform mundane, yet crucial, tasks -- such as like renting construction equipment and preparing well locations, everyone at DUG was singing the praises of Southeastern Ohio.

I had the opportunity to speak to management teams from two Portfolio Guru, LLC favorites:

GreenHunter Resources (GRH) brought a MAG-Tank (Modular Above Ground) panel to the DUG exhibition hall. The company announced this week it had closed $1.5 million in MAG-specific financing and has already begun fabricating additional MAG-Tank panels.

At DUG, it was clear to me that the key strategic advantage for the MAG-Tank is the "M"--modular. There were many other types of production water storage tanks at DUG, and, at the lowest-level, digging a pit to hold production water can also be an option.

So, why would operators choose GRH's solution? The ease of assembling/disassembling and the ability to create different shapes/sizes of tank are crucial for the difficult topography of Appalachia. That's what will drive MAG-Tank business. That modularity is less useful in the flat topography found in Texas, which explains GRH's Marcellus-Utica marketing focus.

There is so much drilling going on in southeastern Ohio that GRH's "bread and butter" salt water disposal (SWD) business is quite strong. Management noted on their recent conference call that SWD capacity would double by year-end 2014. However, based on the buzz at DUG, I would expect GRH to clear that hurdle by the middle of 2014, if not sooner. I expect GRH to close on its announced $35 million financing within the next few weeks, and GRH management wants to put $25 million of that into new wells immediately.

This is a critical time for Magnum Hunter Resources's (MHR) drilling program, as its Utica wells are just beginning production. So, Magnum CEO Gary Evans's short presentation at DUG was edifying, but I'll be listening this morning as the company presents at a sell-side conference in Miami. Any new information on the results from Magnum's Stalder and Farley pads will be digested by the markets.

Magnum's partner in several Utica wells, privately-held Eclipse Resources, gave a very bullish presentation at DUG, and now the market is expecting similarly strong initial production rates from Magnum. Eclipse (which is controlled by private equity energy firm EnCap) will be the hot shale drilling IPO of 2014, and Antero Resources, which owns properties adjacent to MHR properties in Ohio, has been the hot IPO of the fourth quarter of 2013. Antero Resources is getting a huge premium to Magnum, and investors at DUG seemed to think Eclipse was headed for a similarly lofty valuation.

The roadmap for Magnum to achieve a "hot" valuation is clear. It needs to A) execute more cleanly in the Utica (MHR's first drilling pad, Farley suffered a blowout and has not yet performed) and B) unlock the value in MHR's Eureka Hunter pipeline, which is currently hidden in MHR's equity value. 

Most pipelines are either privately held or part of master limited partnerships (MLPs). The long-lived, steady cash flow business model is well suited for a "pass through" model in which no corporate taxes are paid.

But that's not the situation with Magnum's Eureka Hunter pipeline. At DUG, Evans detailed the current growth efforts at Eureka Hunter. Clearly, this is being optimized for a high-volume Utica/Marcellus infrastructure.

But it's still part of a public company (MHR owns 60%), and while, as Evans contends, Eureka Hunter may offer a strategic advantage in getting MHR's gas to market, MHR's shares are not receiving full credit. So, as the calendar turns into 2014, I would expect more bullish talk from Evans on the pipeline -- the perfect preparation for an asset sale.

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