The Art of Big Dividendsphoenixcapitalmarketing.com/bdi1.pdf · held 10 billion barrels of oil and...
Transcript of The Art of Big Dividendsphoenixcapitalmarketing.com/bdi1.pdf · held 10 billion barrels of oil and...
IN THIS REPORT
-The secret of finding value in the energy sector -A steady stream of income from an Oil exploration legend -A whopping 11% yield… every month.
The Art of Big Dividends
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The executives running these large oil companies, as much as I admire their ability to set strategy and get large organizations to execute in a disciplined manner, are not the “talent” in the industry. Sure, the finance functions allocate the capital, the engineers plan, and the drillers punch holes in the ground, but you have to find it before you can pump it. The geologists are the talent. And what they do is as much art as science. They don’t sit in a nice office with assistants waiting on their beck and call. Nor do they have time for corporate politics, yakking about the last football game around the water cooler or weekends of golf. They are on the front line.
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Whenever I meet with senior executives of a major oil company the setting is invariably the same – a corporate presentation of recent results, capital spending plans and production forecasts by management, followed by analyst and fund manager questions about potential share repurchases and dividend increases. From there we go back and assess their commentary and perform our own research to either confirm or update our estimation of the value of the company and stock. But this is not how the value is created.
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I want to tell you the story of Marvin Magnus. Born in Altoona, Pennsylvania in 1924. The youngest of three children, his father worked for the local railroad and two great uncles, both civil war veterans, lived into their 80’s. As a youngster, Marvin displayed talent and aspiration to become an artist. The economic times being as they were, by the time he enrolled at Pennsylvania State University he decided to study ceramic science and even earning a medal in the 1945 AAU Gymnastics finals for rope climbing. With World War 2 in full swing, the Department of Defense had a shortage of geologists and at the behest of the school Dean the young man dutifully switched his major to geology and joined the U.S. Geological Survey in 1946, where he spent twelve years conducting field work and analysis on Alaska and co-authoring several publications detailing their findings. Joining Atlantic Refining Company in 1958, within four years he permanently settled in Anchorage, Alaska to explore and develop the land he came to understand so well during his service with the U.S. government.
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That exploration work was as far as you can imagine from a “cushy” job. Marvin Magnus and his team would plan their trips carefully, using rivers to navigate downstream and being supplied with 55-gallon drums of C-rations pushed out of bush planes and living in tends for up to three months without a shower or a radio.
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Courtesy: Bob Hallinen, Daily News Archive It was tough work, including a helicopter crash into a tree where the craft fell over 40 feet and required back surgery to fuse his spine, but only after he walked for three days from the crash site. He never gave up his dream to be an artist, painting throughout his career. His paintings have been displayed in the Corcoran Gallery in Washington, DC, the Smithsonian Museum Area Show and the Baltimore Watercolor Society. Magnus passed away in 2009 at the age of 84, but left behind a legacy in the oil industry that will pass down for generations.
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That exploration work was as far as you can imagine from a “cushy” job. Marvin Magnus and his team would plan their trips carefully, using rivers to navigate downstream and being supplied with 55-gallon drums of C-rations pushed out of bush planes and living in tends for up to three months without a shower or a radio. It was tough work, including a helicopter crash into a tree where the craft fell over 40 feet and required back surgery to fuse his spine, but only after he walked for three days from the crash site. He never gave up his dream to be an artist, painting throughout his career. His paintings have been displayed in the Corcoran Gallery in Washington, DC, the Smithsonian Museum Area Show and the Baltimore Watercolor Society. Magnus passed away in 2009 at the age of 84, but left behind a legacy in the oil industry that will pass down for generations. His greatest work of art. Marvin Magnus fell in love with Alaska, and his paintings captured the beauty and splendor of that faraway land. But his greatest work altered the landscape U.S. oil production. Oil was discovered on March 12, 1968, after six years of exploration by Marvin Magnus and his twelve -man exploration team using the rig Prudhoe Bay State #1. By 1974 Alaska's Division of Geological & Geophysical Surveys estimated the field held 10 billion barrels of oil and 26 trillion cubic feet (Tcf) of natural gas. On June 20, 1977 the Alaska Pipeline opened and a gusher of natural wealth began to flow into the coffers of Atlantic Richfield (post merger) and British Petroleum, as well as enriching the State and people of Alaska. Those riches continue to flow to this day, and we have identified a solid, low risk investment for you to participate in that stream of cash…
FEATURED INVESTMENT BP PRUDHOE ROYALTY TRUST (NYSE:BPT)
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This month’s featured investment offers you multiple paths to profit – an attractive, sustainable 11% dividend yield, 1:1 leverage to higher oil price ($1/barrel for oil = 1%+ potential on the stock) and price appreciation. The Prudhoe Bay field is located on the North Slope of Alaska, 250 miles North of the Artic Circle. This fast storehouse of energy spans an area 12 miles by 27 miles
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and nearly 150,000 productive acres. Unlike some of the U.S. shale plays there are no wildcatters up here – it’s a “heavyweights only” environment and production is in the hands of three giants including British Petroleum ( 45% of the productive area is subject to this Royalty Interest), ExxonMobil and Conoco Phillips. Since going into production in 1977, Prudhoe Bay has yielded over 11 billion barrels of oil and condensate. British Petroleum has a 26.36% interest in the field. Prudhoe is now considered an old field, but a lot of refineries still thirst for her medium grade, low sulfur crude and the industry still drills about 40-45 new production wells annually. Like Peyton Manning, a little older and a little slower but still getting it done. The agreement entitles the trust to 16.4246% of the average per barrel royalty on the first 90,000 barrels of oil and condensate produced in the prior quarter. In fact, BPT gets the profit off about 79,000 barrels per day or about 85% of contractual maximum and while production continues to decline 5% per annum we
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see many good years remain. Advanced technologies continue to drive higher energy sector productivity and free up previously unavailable reserves. It is no accident that British Petroleum and others continue to recapitalize the Prudhoe Bay area with upgraded infrastructure and new production wells. Here are the basic economics on a quarter, where the trust participates in the results from the PRIOR trailing quarter: The Royalty Trust is entitled to a 16.4246% interest on the first 90,000 barrels per day of oil and condensate (but not gas) = 1.33 million potential barrels per quarter. Now averaging about 79,000 barrels per day annualized which works to perhaps 1.13 million barrels per quarter. BPT is charged allowable expenses of perhaps $30/barrel per quarter. This
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Advanced technologies continue to drive higher energy sector productivity and free up previously unavailable reserves. It is no accident that British Petroleum and others continue to recapitalize the Prudhoe Bay area with upgraded infrastructure and new production wells. Here are the basic economics on a quarter, where the trust participates in the results from the PRIOR trailing quarter: The Royalty Trust is entitled to a 16.4246% interest on the first 90,000 barrels per day of oil and condensate (but not gas) = 1.33 million potential barrels per quarter. Now averaging about 79,000 barrels per day annualized which works to perhaps 1.13 million barrels per quarter. BPT is charged allowable expenses of perhaps $30/barrel per quarter. This number will start to rise significantly in 2018 – five years from now. Production taxes equal about 38% of pre-tax. For example, if we take a WTI price of $99 per barrel and subtract $30 of costs per barrel we get $69 per barrel pretax. Taking at 38%, plus or minus, results in about $26 per barrel of taxes, leaving the BPT unit with about $41 per barrel of Royalty revenue. Multiply barrels of quarterly production X royalty per barrel and you have your revenue. Taking out a small amount of administrative expense the remainder is paid out in dividends each quarter. It is that simple. And here is the path for you to MAKE PROFITS on this underappreciated, low risk asset: First – a big, fat 11% dividend yield as unit holders collect at least $8.50 per share of dividends per annum over the next two years. Second – leverage to higher oil prices. Every $1/barrel rise = $0.13 of dividends. Last but not least – a higher stock price – BPT shares traded at over $120 in 2012 and as high as $96 in 2013. At the current price they are within 10% of the post-Great Recession low of $68. No reason $100/share can’t happen with a China upturn and some buoyancy to oil price. But don’t just take my word for it, read along and study our full analysis first!
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BALANCE SHEET
You do not have to worry about the balance sheet. The BP Prudhoe Royalty Trust has no balance sheet risk because it is a non-operating grantor trust. The full financial strength of British Petroleum, which ended 2012 with over $300 billion in assets and an equity account of $118 billion, supports the production and operation of its Prudhoe Bay operations.
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Which means there are no debt or interest coverage ratios to consider for the BP Prudhoe Royalty Trust.
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CASH GENERATION
Cash flow is king. A company has to generate cash to continue paying your dividend. Again, because this is a Royalty Trust and British Petroleum is operating the field we do not have to concern ourselves with the capital expenditures they spend to keep the oil flowing. Changes in accounts receivable, inventory, payables etcetera are of no concern to us.
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EARNINGS, DIVIDENDS, AND OUTLOOK
The inputs that will drive results are very straightforward: 1. Average Barrels Per Day 2. Average WTI Price (West Texas Intermediate) 3. Average Chargeable Costs (about $30/barrel) 4. Production Taxes (about 38% of profit) Prudhoe Bay production levels are in a steady but slow decline. Rumors of the field’s demise began long ago, but as industry experts know the application of dramatic innovations in oilfield productivity, reservoir conservation and better extraction methods continue to extend the economic life of the field. BP Prudhoe Bay Royalty Trust will benefit from about 79,000 barrels per day of production in 2013, a manageable (5%) decline as BP continues to drill new production wells.
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The wildcard – or in our view – opportunity – is the oil price. Right now West Texas Intermediate, or “WTI” trades near $100 per barrel and with continued economic expansion in the United States, Asia, Middle East, Africa and even stability in Europe we see at least stability. If oil rises in price the shares of BP Prudhoe Bay Royalty Trust will directly benefit. We estimate that every $1/barrel change in oil price would add about $0.13 annually to the dividend and support a $1 increase in the stock price. Costs are stable. Chargeable costs are at $16.80 per barrel and slight cost escalators are built into the Trust agreement for several years before stepping up to $20/barrel in 2018 and $26.50 by 2020. Depending upon the price of oil at that time these costs could become an issue but we are far away from that point and in any event the demand for energy continues to grow. As for taxes they continue to run at about 37-40% of pre-tax profit. On a trailing 12-month basis BPT has generated $8.69 per unit of cash and dividend distributions for investors. Based upon anticipated production levels, a steady oil price and our cost estimates we believe that investors can expect the annual dividend to remain above $8/unit (closer to $8.50) for at least the next two years.
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INVESTMENT CASE
In order to invest in the units of BP Prudhoe Bay Royalty Trust you have to be comfortable with the price of oil. West Texas Intermediate or “WTI” trades in the $98-100 per barrel area and absent a strong dollar rally that looks like a good base. If anything, rising industrial activity in China, Middle East and Africa could drive prices higher. Investors can profit from BPT shares, trading at $75-76 in three ways. First – a big, fat 11% dividend yield as unit holders collect at least $8.50 per share of dividends per annum over the next two years. Second – leverage to higher oil prices. Every $1/barrel rise = $0.13 of dividends. Last but not least – a higher stock price – BPT shares traded at over $120 in 2012 and as high as $96 in 2013. At the current price they are within 10% of the post-Great Recession low of $68. No reason $100/share can’t happen with a China upturn and some buoyancy to oil price. Action to Take: BP Prudhoe Bay Royalty Trust (BPT)
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We are thrilled to have you onboard as a subscriber to the Dividend Scout and look forward to bringing you quality income investments and valuable investment ideas so you can book profits. Well, back into the field to do more research for now. Respectfully yours, Buck Wilson Editor Big Dividend Investor
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