Is Ultra Petroleum the Ultimate Investment?

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With more than 5,400 stocks to choose from, the universe of investment possibilities is enormous. You could get tips over the company water cooler or from Internet discussion boards. A better way might be to look for stocks based on what you already know and own.

Motley Fool CAPS helps you focus your energies by providing you with a personalized Stock of the Day. Using its supercomputer, it looks at stocks currently in your active pick list, stocks picked by highly rated players with lists similar to yours, industries in which you currently have active picks, and Saturn's orbit around the sun. Well, maybe not that last one -- but it targets areas in which you already have an interest.

By pairing up the opinions of some of the top investors in the CAPS community, CAPS provides you with a handful of companies on which to begin your own due diligence and research.

Buy what you know
Based on my outperform ratings on companies like Kodiak Oil & Gas and Peabody Energy, as well as my underperform rating on Enerplus (NYSE: ERF  ) and EXCO Resources in the broad oil and gas industry, the CAPS supercomputer thought I also might be interested in independent driller Ultra Petroleum (NYSE: UPL  ) , one of five Stocks of the Day it offered up for my consideration last week.

With Europe in a deep recession again, China hitting a hard landing, and unemployment here at home once more on the rise, oil prices have taken a beating, falling to around $83 a barrel, while natural gas remains depressed at around $2.40 per million Btus. So    let's see what Ultra has going for it that might warrant an investment, even if the supercomputer hasn't yet picked it for you. Just remember, as smart as the CAPS algorithm may be, it's still just an algorithm, so be sure to look before you leap on any of its suggestions.

Ultra Petroleum snapshot

Industry Oil, Gas, and Consumable Fuels
Sector Energy
Market Cap $2.9 Billion
Revenues, TTM $1.1 Billion
Return on Capital, TTM 15.2%
Dividend and Yield NA/NA
Cash $2.5 Million
Long-Term Debt $2.0 Billion
Free Cash Flow, TTM (OCF-capex) ($474.3 Million)
Recent Price $18.90
CAPS Rating (out of 5) *****

Sources: Motley Fool CAPS, S&P Capital IQ.

Free flowing gas
The natural gas industry is in a fix trying to gain control over a market awash in the fuel. Despite selling off assets, as Enerplus is planning on doing, and cutting back on capital expenditures, as both Chesapeake Energy (NYSE: CHK  ) and Encana (NYSE: ECA  ) are in the process of achieving, natural gas in storage still managed to rise last week to almost 2.9 billion cubic feet, still well above the five-year average. But consumption is still falling, primarily in the power sector, where usage dropped more than 10%. Rig counts are being reduced, but apparently not at a fast enough pace.

Caught up in this downward spiral is Ultra Petroleum, which has seen its shares tumble 60% over the past year. It has reduced its own capex spending by reducing the number of drilling rigs operating in its Wyoming fields and is encouraging its partners' operating projects on its behalf in Pennsylvania to do the same. They've estimated their capital investment program for 2012 will be $825 million, down 45% from $1.5 billion spent in 2011.

In the March quarter, it said it realized natural gas prices of $3.81 per Mcf, which suggests the current quarter is going to take a hit as a result of a further depressed pricing environment. A year ago it was realizing more than $4 per Mcf. While it has hedges in place guaranteeing $4.32 per Mcf on 150 billion cubic feet of production, there's still tremendous downward pressure being felt.

Succeeding when others fail
Yet it's not all doom and gloom. As much as the gas companies are cutting back on production because the stuff is cheap, the bottom will eventually be hit (some say it already has) and prices will rise once more. Low-cost producers like Ultra that are sitting on all this cheaply produced gas will stand to make a healthy profit when they start selling it at higher prices.

This past winter was an anomaly in its warmth and contributed to an excess of supply, so we probably shouldn't expect the coming one to be as equally mild. Moreover, the cheapness of natural gas is fueling its usage in other areas and could provide an impetus for an expansion of alternative technology, such as nat gas vehicles and fueling stations. The Obama administration's stance toward the coal industry is leading utilities to switch from coal-fired plants to those powered by natural gas.

According to the Energy Information Administration, coal-burning facilities are expected to fall to 10% of total new capacity in the U.S. in 2013, down from 18% in 2009. Gas, on the other hand, will soar to 82% of new capacity, up from 42% last year.

Brazil's Companhia Energetica Minas Gerais, the second largest energy producer in the country, wants to buy Vale's (NYSE: VALE  ) natural gas reservoirs because it views the energy source "as the best potential for growth over the next five years."

As CAPS member LouPerna points out, the pricing imbalance can't last indefinitely, so that when "the oversupply situation works itself out this well-managed low-cost producer will do well over the coming years."

Risk without reward?
With the stock priced at just six times earnings, add Ultra to your Watchlist if you think its opportunities make it a cheap stock, but also let me know on the Ultra Petroleum CAPS page or the comments section below whether you think it's a situation that only works itself out later rather than sooner.

If Ultra's growth ambitions pique your interest, The Motley Fool has identified a company that will prosper for years to come. Read more about one energy stock set to soar in our special free report "The Only Energy Stock You'll Ever Need." Don't miss out on this limited-time offer and your opportunity to discover this under-the-radar company before the market does. Access your report -- it's totally free.

Fool contributor Rich Duprey holds no position in any company mentioned. Check out his holdings and a short bio. The Motley Fool owns shares of Ultra Petroleum and Chesapeake Energy. Motley Fool newsletter services have recommended buying shares of Chesapeake Energy and Ultra Petroleum. The Motley Fool has a disclosure policy. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

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