Quicksilver: A Stock to Continue Benefiting from High Energy Prices?

As energy prices have been soaring recently, and are expected to remain high at least through 2009, according to the June 10th report of the Energy Information Administration, I thought I'd write about a small, leveraged company in the sector that could beat the market over the short term.

Quick Silver Resources (KWK) is a natural gas and oil explorer and producer headquartered in Fort Worth, Texas. It focuses on getting natural gas and oil out of unconventional places like tight sands, coal beds, and fractured shales. The company owns property in Texas, Wyoming, Montana, and Canada (mostly in Alberta). As of 12/31/07, about 78% of the company's reserves were in Texas, and another 21% were in Canada.

In its most recent quarterly results, KWK reported a 78.6% jump in earnings year over year on a 35% increase in revenues. The growth was the result of increased production and higher oil and gas prices. Over the last five years, the company has grown its sales at an average annual rate of almost 38%. Quicksilver is expected to continue its strong performance, with 2008 earnings projected to nearly double those of 2007, as long as oil and (especially) natural gas prices stay near where they are today. Daily production of natural gas last quarter was about 211 MMcfe (million cubic feet equivalent), a year over year increase of almost 13%. Management says it expects daily gas production to be from 225 to 235 MMcfe for the rest of the year.

Because liquefied natural gas transport is still in its early stages, domestic natural gas producers like Quicksilver have an advantage over foreign producers, which have trouble getting their products to the US market. Moreover, domestic producers (based in the US and Canada) face less political risk than competitors developing properties in, for example, the Middle East or Eastern Europe. What separates KWK from some other domestic producers is its unconventional properties. Tight sands, fractured shale, and coal beds have fairly stable production and longer asset lives than conventional properties. This also lowers the firm's risk.

From an investor's perspective, another good thing about Quicksilver is that management has a large stake in the company. Members of the Darden family, who sit on the board (including Glenn Darden, president and CEO--his brother, also a board member, recently purchased a few more shares at around $41 per share), own around 34% of the company's stock. Excluding the Dardens, other managers control a combined 1% of the company's stock. Apart from his significant stake, Glenn Darden is also a skilled manager with over 20 years of experience in the industry.

And now for the risks Quicksilver investors face.

The company does not pay a dividend. (This isn't really a risk, but I like companies that pay you to invest in them.)

The company has not generated positive free cash flow for some time. Free cash flow is expected to remain negative for the foreseeable future. The reason that Quicksilver's capital spending outpaces the cash it brings in is because of its growth strategy of aggressive acquisition and development of unconventional properties with borrowed funds. While this strategy has worked so far, it may not in the future.

If natural gas prices fall, the negative free cash flow risk could be exacerbated. As Quicksilver already relies on outside financing for its operations, it will be hurt if it cannot obtain credit at rates it is used to. The company already has over $1 billion in debt, and has recently obtained a new $1 billion revolving credit facility. For purposes of comparison, revenues for the trailing 12 months are just over $600 million.

Mitigating this risk in the short term is Quicksilver's sale, in November 2007, of assets in Kentucky, Michigan, and Indiana. Along with last August's successful IPO of Quicksilver's master limited partnership Quicksilver Gas Services (KGS) of which KWK owns almost 73%, the company obtained enough cash to be financially flexible in the near term.

Another risk Quicksilver faces is tougher competition. In the past few years, a whole slew of new companies entered Quicksilver's space. Moreover, Quicksilver may be hurt significantly if it experiences problems in its exploration or development of new land. Problems resulting from exploratory and development failures will be exacerbated by debt.

Like other companies in the space, KWK faces the general risks of labor problems, equipment problems and rising costs, environmental disasters, and tougher government regulations. There is also the risk that oil and natural gas prices (and KWK is especially reliant on natural gas) will tumble. Given Quicksilver's leveraged growth strategy, lower natural gas prices would probably hurt it more than its competitors.

To summarize, Quicksilver's prospects are largely determined by natural gas prices and its success in exploring new properties for development. If its past, in terms of exploration and production, is any indication, KWK will do well in finding new land to develop. Further, natural gas prices are projected to remain at current levels in the near term.

If interested in Quicksilver, you may also be interested in the iShares Dow Jones US Oil and Gas Exploration and Production Index Fund (IEO) or the S&P Oil and Gas Exploration and Production ETF (XOP). The two ETFs provide a more diversified approach to exposing your portfolio to oil and gas exploration and production.

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Using Inverse ETFs

Inverse or bear market ETFs are designed to do the opposite of whatever index they track. For example, DOG does the opposite of the Dow Jones Industrial Average (DJIA). If the DJIA goes up 1%, DOG goes down about 1%; the DJIA goes down 2%, DOG goes up 2%.

You can use inverse ETFs to make money when the market goes down, whether to hedge your portfolio or just to bet that the market will go down over a certain period, without having to short sell anything.

I wrote this previously: "You should remember that inverse ETFs go down when the market goes up, and the leveraged ones go down twice as much. As over the long term the market tends to go up, it's probably best to use inverse ETFs to hedge your loses in rough times or for short term gains."

To emphasize, I'd like to add that if you use inverse ETFs, you have to pay attention to them. Holding inverse ETFs too long will always lose you money. (Well, not always. It is always possible for the market to go down over an extended period. But if this happens, there will probably be other things to worry about than the stock market.)

Here's a case in point. Some time ago, I created a Motley Fool Caps account. You select stocks, and say whether they'll outperform or underperform the S&P 500. Your picks are tracked, and you're given points. At the time, I thought the market was going down. So, I loaded up on inverse ETFs, and leveraged inverse ETFs (they do double the opposite direction of the index they track).

As you can see from the chart, I did really well between March and April of 2008. Then, this not being real money, I completely forgot about it. By May 2008, I was down almost twice as much as I had gained.

The lesson here is, if you use inverse ETFs, it has to be for the short term, and you have to watch them like a hawk.

InBev Makes $65/share Offer for Bud

I wondered the other day whether the rumor that InBev, brewer of Stella Artois and Beck's, would make an offer for Anheuser Busch (BUD) was true, and thought it unlikely. I was wrong. After market close, InBev offered $65 a share for the American brewer, which had closed at $58.35. BUD was up about 7.5% in after hours trading, around $62.7 a share.

What now? Tom Pirko, president of Bevmark (a beverage advising firm, is of the opinion that negotions will take the offer up to $70 a share, with $75 being the maximum.

Warren Buffett's Berkshire Hathaway (BRK.A & BRK.B), which owns 4.99% of BUD, stands to make a tidy profit. He always seems to have his money in the right place. Is Kraft (KFT) then a good buy?

What Might Stop the Deal From Happening

The Busch family is said to be against the deal. Although they do not enough shares to mount much of an opposition, they might sway other shareholders. Since Budweiser is an iconic American brand, there is some general opposition to the deal as well, as InBev is a European company. The size of the resulting company, if the deal is completed, might get the anti-trust regulators involved. This slim possibility would also prevent the deal from happening.

Another possiblity that might prevent the deal is that BUD's board of directors decides to buy the rest of Mexican brewer Modelo (it already holds a 50% stake). It's pretty much the only corporate action they can take to prevent InBev from buying BUD. This is also supposed to be a very slim possibility. Finally, as was my reason for thinking the rumor was untrue, InBev might not be able to borrow so much money ($46 billion at the current offer price) in this tight credit environment.

What if the Deal Doesn't Happen?

First, BUD's share price will probably fall. Second, as long as it's not lack of financing that kills the deal, InBev might go after SABMiller (maker of Pilsner Urquell, Miller Lite, and my favorite, Grolsch). SABMiller seems very receptive to this potential $44.25 billion deal.

If the BUD deal doesn't happen and you think InBev still wants to buy something, you could try buying SABMiller shares. The stock is listed on the London Exchange. In the US, it trades on the Pink Sheets. Another way to benefit from InBev buying SABMiller would be to own Altria (MO), the tobacco giant, which has around a 30% stake in SABMiller.


Curious about the InBev BUD Rumor

Anheuser Busch (BUD), the largest American brewer, has seen its shares jump recently on a rumor that InBev is going to buy it for $65 a share. BUD closed on Friday at $57.28, about 13.5% less than that potential buyout price.

What I'm curious about is, how does a company with a market cap of 29 billion Euros (currently about $45.8 billion) afford to buy something for over $46 billion? It has to borrow money, obviously. But what group of lenders would be willing to put up so much cash, especially in the current tight credit environment?

It's certainly possible that the deal could materialize, but I think it's unlikely. If it is just a rumor, and the rumor goes away, where will BUD be trading then?


Stock Screeners

A question came up recently in an email, about how to find stocks trading below a certain price. You can look through stock lists, or you can save lots of time by using a stock screener. A stock screener is a tool that displays stocks depending on the criteria you want. Depending on the screener, the criteria can range from share price, to dividend payout ratio, to earnings growth, and so on.

While this is intended mainly for novice investors, I hope the list is helpful to seasoned investors as well. Maybe they'll find a screener that's better than the one they use.

Every discount broker has a stock screener. My favorites are at Scottrade and TDAmeritrade.

Free Stock Screeners

MSN Money Deluxe Screener

This is by far the best free stock screener out there (ETFs are included in its results). It has an intuitive interface with over 500 criteria to choose from. Not only can you set custom values for your criteria (say you want to find companies with returns on equity of 15% or greater), but you can also filter companies by comparing them to other companies or to their industries. For example, instead of setting return on equity to 15% or greater, you can set it to below industry average, at industry average, above industry average, x% above industry average, x% above another company's return on equity, and so on.

The MSN screener also gives you the option of making your own, custom criteria. For example, if you want to find companies whose 5 year dividend growth rate is greater than industry average earnings per share growth rate, just plug those values in. Want to develop your own ratios? Go ahead. How about companies whose P/E divided by 5 year average earnings per share growth rate plus five year average dividend yield [PE/(5 year average EPS Growth Rate + 5 year average dividend] is greater than .5? Just plug it in.

Besides the standard operators of less than, greater than, equal, less than or equal to, greater than or equal to, the MSN stock screener adds flexibility with operators like "high as possible," "low as possible," "near," and "display only."

Suppose you want to use your criteria to search for stocks at some future time. The MSN stock screener gives you the ability to save or export your criteria. Want to save your results? You can export them to an Excel file. (If you don't have Excel, no worries. Try Open Office. It's a free office suite that, in my opinion, is better than MS Office. It opens all MS Office files, including Excel files. Google Docs also has a free spreadsheet program that can open Excel files). You can also save your results to a text file. If you have an MSN Money portfolio, you can export your results there too.

Additionally, the screener has many preset screens to get you started.

MSN also has a mutual fund screener, which works the same way.

Having trouble with the screener? Harry Domash has a lot of great articles demonstrating the power of the MSN screener. Please note, however, that Domash's stock picks might not be so good. I haven't checked his performance lately, but last time I did, the majority of the stocks he selected using his screening techniques were down quite a lot. (I even toyed with the idea of setting up a model portfolio that shorts all his selections, but haven't gotten to that yet. Perhaps for a future post).

So what's the catch with this free, incredibly powerful tool? Rarely, the data are a wrong. This is a problem all stock screeners have in common. Never trust screeners completely, and don't base your trading decisions only on your screen results. Rather, use them as part of your initial research.

The drawback unique to MSN's screener is that you have to install MSN Money Investment Toolbox to use it, and this requires Internet Explorer and possibly having Windows installed on your machine. It doesn't work on Firefox or other browsers. There might be ways to get around this. Linux users (I'm a happy Ubuntu user) might try running Internet Explorer with Wine.

Yahoo! Finance

Behind MSN is Yahoo!'s Java based screener. It has around 150 criteria from which to choose. It's not as robust as MSN's, but if you can't use the MSN screener, this is the next best thing. It will run on every computer that has Java installed and enabled.

You can search for stocks, bonds, and mutual funds. The Yahoo! screener allows you to save your screens, and to export your results to a spreadsheet. If you have a Yahoo! Finance portfolio, you can export your results there as well. There are a number of preset screens to get you started.

Reuters used to have a pretty good stock screener, comparable to MSN's. Maybe it still does, but I can't find it on their site. The decent, but very limited ETF and Mutual Fund screener is still available.

Google, Yahoo!, and MSN have the best basic stock screeners--those where you don't have to load anything. The criteria to choose from are much more limited than the Deluxe MSN screener and the Java Yahoo! screener, but are enough for most quick screens. Among these, I like Google's the best.

Other screeners with limited criteria, but useful for quick screens:




Market Watch

I wrote earlier about how you might already be paying for various financial databases such as Morningstar and Value Line, whether through college tuition or through your portion of taxes going to your local public library. Be sure to check these resources. The Morningstar library edition, for example, has a pretty good screener similar to MSN's. While it's not as flexible as MSN's, it gives you the ability to search for stocks using Morningstar's premium data (e.g., you can search for stocks based on Morningstar grades, etc).

Happy screening!