Patience in Speculation

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Disclosure: The following represents my opinions only. I am long AAV, AOT, AYA, BIG, CDR, CRE, GOT, IAU, OGC, NGD, NPR, NSE, NXE, RDU, TAO, TNZ, U.UN, and VGCX (image credit to Aron Visuals on Unsplash)

It’s been a couple of months since I put out a Trick or Treat basket of seven stocks that I thought would have catalysts by the end of 2023. Only one came to any kind of conclusion before the end of the year — and that title goes to Radius Gold (RDU.V, last at $0.125) which unfortunately learned that its Tropico target wasn’t as straightforward as hoped. Of the balance, two have seen news this week, and four remain “pending”. So much for things happening “on time” or “as expected”. A quick run-through is in order. A common theme that seems to keep coming up is patience. Typically, I don’t think of my speculations as requiring patience, but lately, they’ve needed just that. My rationale in saying that is based on my belief that just because something doesn’t happen on time doesn’t mean it isn’t going to happen — assuming of course that the company in question is still on a path that is objectively the same as it was when the speculation began… because there’s always a story…

Tenaz Energy (TNZ.TO, last at $3.59)

No change in my view here. Tenaz remains one of the best risk-rewards that I’ve seen in recent memory. Currently trading at around 1.5x EV/CF, this $100 million market cap company has about half of its market cap in cash and is actively hunting for/negotiating on deals in the international energy arena, where management has a distinct competitive advantage. The only knocks I hear on TNZ are that the market cap is too small and the stock is too illiquid for most institutions. The management team is stacked. The board is stacked. The capital structure and balance sheet are pristine. Discipline and respect for shareholder value with respect to the M&A strategy are sacrosanct. The only requirement? Patience. TNZ has frustrated more than a few investors over the last two years as they wait for something meaty to chew on in the M&A department, and yet even its small bites made TNZ one of the best performing stocks on the entire TSX in 2023. Not bad for a minnow that is “too small”. I’m of the opinion that TNZ represents a type of arbitrage that I’m constantly looking for… the “embedded re-rate”. As it stands today TNZ is objectively too small for most institutions… their mandates dictate that no matter how much many money managers might like management and/or the story, they actually aren’t allowed to own it under the rules of their funds. This will be the case until it isn’t, and a M&A strategy virtually guarantees that TNZ will grow into a company that a much broader audience will be willing and able to invest in. No deal yet, but as I said… patience.

Tag Oil (TAO.V, last at $0.35)

Speaking of patience, TAO is doing its best to test the patience of just about everyone. I’m going to start with a little geology lesson here. The Abu Roash “E” (abbreviated ARE), is the rock formation that sits above TAO’s Abu Roash “F” (ARF) target horizon. As TAO turns the drill to “land” the wellbore horizontally in the ARF, part of that turn occurs within the overlying ARE formation, which means that TAO is going through that formation at an angle. That’s all well and good, but TAO has now learned that if you have “open hole” (i.e., when a formation isn’t yet cemented behind casing and is still open to the drill string and circulating drilling fluid), the shales in the ARE are prone to what is called caving. Because the ARE is composed of alternating (interbedded) layers of shale and limestone of variable thickness, if the formation is open for an extended period, the shales within the ARE begin to “slough” which means they “erode” much more than the interbedded limestones. If you have a top-side (surface) issue with the rig, which TAO had, it means that the wellbore is left with fluid circulating in the hole while the top-side issue is sorted out. At that point, more time equals more sloughing of the shales in the ARE, which makes for a very irregularly shaped wellbore through the ARE section (imagine resistant limestone “ledges” interbedded with sections of shale that are “washed out” perhaps several feet into the formation). Aside from being very difficult to slide anything (like drill pipe or casing) through that now-ragged interval in the hole, eventually some of those limestone ledges can even break off and wedge into the side of the drill pipe. Sounds like fun, right? So the solution? Well, first off, don’t have a mechanical issue with the rig at surface that makes you shut down drilling… hence the pause for repairs. Second, don’t leave the ARE open any longer than you need to, as more time equals more sloughing of shales; so get it drilled and behind casing before you start the final section of the well into the ARF. Third, go through the ARE at a slightly steeper angle and make sure the drill is rotating through the zone as opposed to sliding through it (you can Google that and see the difference between rotating and sliding during directional drilling if you’re interested). And finally, maybe switch to an oil-based drilling fluid when drilling through the ARE, as shales can have clays in them that “swell” (i.e., absorb water and expand like the pages in a wet book) when they are exposed to the water in a water-based drilling fluid, which leads to an increase in hole sloughing/instability. Remember that TAO drilled the build section through the ARE without incident in the first leg of the well, but lost that leg when they twisted off a bit in the horizontal section, so it’s not like the ARE can’t be drilled through successfully. TAO will now enter the ARE at a slightly steeper angle, case it behind pipe once they are through it, and then proceed to land the horizontal leg of the T-100 well within the ARF.

So third time’s a charm right? Should be. I guess we’ll see. You pay your tuition the first time you do something and TAO is certainly paying its tuition here. The good news is that by knowing what not to do, you avoid making those mistakes in the future. The other good news is that TAO has more than enough money for this well, even with its likely $3-ish million in cost overruns, plus another well afterwards (after this well is completed, TAO expects to have CDN$13-14 million in the bank.

I’m going to finish with an analogy here. For anyone who’s ever built a house or done a major renovation, I can assure you that during the build/reno processes a variety of “issues” will arise depending on your level of preparedness. Some issues are unforeseeable, some are created by lack of foresight/oversight, some cost time, some cost money, and some cost time and money. This inevitably causes stress between everyone involved during the process, but one day, after all the nonsense, the house is completed, down to the switch plates and outlet covers. Then, when you have your first dinner party, the guests will marvel at the newness and novelty of the house and not one of them will know what a pain in the ass it was to get it to that point. You’ll know — because you lived it — but to anyone else, the final product is all that matters. That encapsulates my thinking on TAO here. For the stock to take a 25% haircut from a tax-loss-selling-depressed level on an issue that might burn a few million bucks (all-in) and cause a month or two of delay seems juuuuust a bit harsh to me. If you don’t think the Hz can ever be drilled, then maybe it’s valid, but given what I know about why TAO has had the issues that it has, I see little reason to panic. People entering TAO now can make the same bet I made some three years ago and they only have to wait 1-2 months for the same result that I do. Hmmmmm… sucks to be me, but for bottom-fishers, this would seem to be an attractive opportunity for speculation. If/when TAO finishes this well and gets it tested, its newness will be all that matters… and the flow rate. TAO is down, but not out, and I think sentiment is near maximum pessimism at the moment. Could there be more unforeseeable delays or malfunctions? Sure, it’s possible… I can’t rule that out… but given the explanations and remedies proposed, I don’t have any reason to doubt that this well will get drilled and tested. Management thinks we might see results in early March. Hopefully good things come to those who wait, and if you’ve read this long-winded comment on TAO you have already exercised a certain degree of patience, so thanks for making it this far…

Remember that TAO is essentially making the mold for its unconventional resource “widget factory” at Badr, where the oil is on pipe and under a great fiscal contract. The well design considerations and operational procedures gleaned from the T-100 well will drive the development of an initial 20-well program with a USD$423 million unrisked post-tax NPV. Management has previously stated that the initial 20-well project could be expanded to as many as 40-60+ locations in the evaluated areas. To really illustrate the discount that I think exists here, TAO’s market cap is currently CDN$64 million and it’ll have $14 million in cash after this well, so call it an enterprise value of CDN$50mm. According to the energy consultants at RPS Energy, the unrisked after-tax NPV10 of the Badr ARF project, on the 20-well case, is CDN$565mm. That means that the market is valuing TAO’s Badr project at less than 10% of what I’ll call its “potential upside”. In reality, nothing trades to its NPV these days, but getting to half of the NPV would be a 5-bagger, and you would be surprised how fast sentiment can shift where you’re looking at 4-digit flow rates — which is exactly what RPS predicts. RPS gives this project a 90% chance of development and the market is suggesting something more like a 10-20% chance at best. Something’s gotta give, and the T-100 well is it. Once the T-100 well is drilled, fracked, and tested, things are going to get interesting real quick. In the mid-case success case, for every dollar of capex that TAO invests in wells, it will generate three dollars in net present value. And that’s not pie-in-the-sky NPV… that’s oil, on pipe all the way to the coast, flowing sweet cash flow into TAO’s jeans. Dreaming aside, let’s see TAO get the T-100 well landed and cased. Just another 6-8 weeks…

New Stratus Energy (NSE.V, last at $0.72)

NSE missed my year-end deadline by a few days, but did announce a formal, closed deal on an asset in Venezuela. The release was light on economic detail, but the scale of the opportunity is in the range of 10-40 million barrels on a risked 100%-interest basis. NSE owns 50% of GoldPillar International, a private BVI company that owns 40% of the Petrolera Vencupet JV alongside 60%-partner PDVSA. Importantly, NSE, through its ownership in GoldPillar, will receive additional revenue in the form of service fees, financing fees, and oil trading fees in addition to sales revenue from the oil itself. There are the standard risks that come with operating in Venezuela in terms of sanctions, along side other risks including, but not limited to, well data quality/existence, existing wellbore conditions, and staffing requirements. Given the jurisdiction we’re dealing with here, I don’t want to sugar coat this one too much, but it is certainly the smallest way to play the Venezuelan oil sector that I’m familiar with. The deal is financed from cash on hand and a facility to be arranged by GoldPillar, so NSE is on its way it would seem. Best of luck to them. The company has also made noise in a prior press release about a deal in Mexico, so I guess we’ll see about that. NSE is an odd one, and the market is still trying to figure out whether or not it likes NSE… and so am I!

Condor Energies (CDR.TO, last at $1.60)

Nothing but crickets and an encouraging stock chart here. I have nothing to add, but will watch for CDR to progress on its initiatives in Uzbekistan and/or Kazakhstan. This story is lightly followed and not broadly owned. I’m hopeful that it can become one of those obscure companies that grows up quickly, and I think the Uzbek deal is my best shot at that, so here’s hoping.

Valeura Energy (VLE.TO, last at $2.75)

VLE remains as cheap as anything in the international sector that I follow. It has good leverage to the oil price and remains on the hunt for acquisitions in SE Asia. The market is having a hard time believing that VLE is as cheap as it looks, but a few quarters of delivery could go a long way to convincing those who might be sitting on the fence here.

Hercules Silver (BIG.V, last at $0.81)

See? I told you. Don’t look it in the eye or it’ll gore you. While exuberance ran high with BIG, the first batch of results did not, and while there was technically nothing wrong with its most recent assays, the lack of sizzle made the stock fizzle to the tune of about 40%. That’s not surprising given that a virtual rocket ride to the moon that holders were wanting to witness. I don’t even watch baseball, but when Aaron Judge steps up to the plate, you expect to see a homer. When he slaps a base hit into shallow left field, there’s a collective disappointment in the crowd even if it isn’t technically warranted. That’s what happened with BIG’s most recent batch of assays from its Hercules project. While the results undoubtedly confirm the presence of a large copper-porphyry system, none of the reported holes carried enough grade to keep the market entertained. It’s worth noting that all of the assayed holes thus far have been within what is called the phyllic alteration zone, which is an outer shell typically cored by a higher-grade potassic alternation zone/core more central to the heat source which was driving this mineralizing system. No maps of the new IP survey were shared, likely for competitive reasons, but BIG confirmed that there’s multi-square kilometre IP anomaly at the Hercules project. Additional geophysical and geochemical work will aid BIG in vectoring towards the potassic core in the upcoming spring program and BIG’s balance sheet (thanks to Uncle Barrick) is robust enough to carry out a significant drill campaign. I read or heard somewhere that if you don’t have patience, the market will teach you patience, and BIG is yet another example of that. I didn’t like getting kicked in the teeth right out of the gate in 2024 on this one, but Barrick’s involvement tells me I should give it some rope until at least another drill program is complete.

Critical Elements (CRE.TO, last at $0.89)

Still no deal, and lithium prices are in the tank. Sector sentiment is weak and so is CRE. Management missed a beautiful window of opportunity here (at least partly due to a protracted permitting period in Quebec), and I view this as a salvage operation now. Show me CRE… show me and the market why we should continue to care… because it’s been a really, really, really long time coming for a project with such good financial and technical characteristics.

Gold and Uranium

This note is already long, but gold and uranium take up the balance of my bandwidth right now, with natural gas percolating in the back of my mind (I still own Advantage Energy, AAV.TO, last at $8.56) and an eye on copper (I’d like to see copper through $4 though). When it comes to gold, it’s been bouncing off all-time highs while many stocks are still not that much off multi-year lows. I have broad, low-commitment exposure to gold through names like I-80 Gold (IAU.TO, last at $2.14), Oceanagold (OGC.TO, last a $2.50), New Gold (NGD.TO, last at $1.88), Aya Gold and Silver (AYA.TO, last at $10.35), Victoria Gold (VGCX.TO, last at $6.53), Goliath Resources (GOT.V, last at $0.80), North Peak (NPR.V, last at $1.63), and Ascot Resources, (AOT.TO, last at $0.54). That’s too many to discuss, but they’ve all been selected with the idea that I think all are either under-appreciated, undervalued, or both, in one way or another. And lastly, with spot uranium prices hitting new 12-year highs, I’m keeping it really simple with holdings in the Sprott Physical Uranium Trust (U.UN.TO, last at $27.77) and Nexgen Energy (NXE.TO, last at $9.05) at the moment, but I would chase other names that I’ve mentioned previously if uranium prices go to Tuliptown.

Tough start to the year for me with TAO and BIG, but if there’s one thing that the market has taught me over the years, it’s that sometimes patience is both warranted and required… because hindsight (shoulda/woulda/coulda) gets you nowhere if the path ahead still seems intact and worth following.

Happy hunting.