Has Contango Oil & Gas Become the Perfect Stock?

Every investor would love to stumble upon the perfect stock. But will you ever really find a stock that provides everything you could possibly want?

One thing's for sure: You'll never discover truly great investments unless you actively look for them. Let's discuss the ideal qualities of a perfect stock, then decide if Contango Oil & Gas (NYSE: MCF  ) fits the bill.

The quest for perfection
Stocks that look great based on one factor may prove horrible elsewhere, making due diligence a crucial part of your investing research. The best stocks excel in many different areas, including these important factors:

  • Growth. Expanding businesses show healthy revenue growth. While past growth is no guarantee that revenue will keep rising, it's certainly a better sign than a stagnant top line.
  • Margins. Higher sales mean nothing if a company can't produce profits from them. Strong margins ensure that company can turn revenue into profit.
  • Balance sheet. At debt-laden companies, banks and bondholders compete with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.
  • Money-making opportunities. Return on equity helps measure how well a company is finding opportunities to turn its resources into profitable business endeavors.
  • Valuation. You can't afford to pay too much for even the best companies. By using normalized figures, you can see how a stock's simple earnings multiple fits into a longer-term context.
  • Dividends. For tangible proof of profits, a check to shareholders every three months can't be beat. Companies with solid dividends and strong commitments to increasing payouts treat shareholders well.

With those factors in mind, let's take a closer look at Contango Oil & Gas.

Factor

What We Want to See

Actual

Pass or Fail?

Growth 5-Year Annual Revenue Growth > 15% 65.4% Pass
  1-Year Revenue Growth > 12% (11.1%) Fail
Margins Gross Margin > 35% 88.0% Pass
  Net Margin > 15% 33.3% Pass
Balance Sheet Debt to Equity < 50% 0% Pass
  Current Ratio > 1.3 5.11 Pass
Opportunities Return on Equity > 15% 13.3% Fail
Valuation Normalized P/E < 20 14.35 Pass
Dividends Current Yield > 2% 0% Fail
  5-Year Dividend Growth > 10% 0% Fail
       
  Total Score   6 out of 10

Source: S&P Capital IQ. Total score = number of passes.

Since we looked at Contango Oil & Gas last year, the company has dropped two points. Collapsing revenue and a drop in return on equity account for the loss, and shareholders aren't thrilled about the 10% drop in the stock over the past year either.

Contango is a small energy exploration and production company that focuses on the Gulf of Mexico. What makes it stand apart from many of its peers is its pristine balance sheet. Unlike larger independents Kodiak Oil & Gas (NYSE: KOG  ) and Cabot Oil & Gas (NYSE: COG  ) that have resorted to debt financing to fund expansion and capital expenditures, Contango is one of the few companies in the business to have no debt. Samson Oil & Gas (NYSE: SSN  ) has a similarly debt-free operation, having worked hard to sell assets and get debt paid off.

Unfortunately, Contango hasn't managed to turn its operational efficiency into massive profit. Like many small companies, Contango is still working on acquiring promising assets, with its Contango Operators subsidiary having been awarded six leases in the central Gulf of Mexico earlier this summer. Although Contango's properties are promising, they haven't reached the full potential that investors have hoped.

Investors got additional troublesome news when Contango said that chairman and CEO Ken Peak would be out for up to six months on medical leave. With exploratory tests for a brain tumor last month, Peak has been a critical part of the company's success over the long run.

Contango's most recent results have reflected uncertainty about the stock and the industry in general. Both revenue and profit down more than 10% during the year that ended June 30 compared to the previous fiscal year.

For Contango to improve, it simply needs to have more success with its drilling operations. If the company's luck can turn good, then Contango has plenty of growth potential looking forward.

Keep searching
No stock is a sure thing, but some stocks are a lot closer to perfect than others. By looking for the perfect stock, you'll go a long way toward improving your investing prowess and learning how to separate out the best investments from the rest.

Contango Oil & Gas has plenty of potential, but why not invest in the one company in the energy sector that can hold fast no matter what oil costs? Find out why this company is "The Only Energy Stock You'll Ever Need" in the Motley Fool's popular free report. Click here for the inside scoop while it lasts.

Click here to add Contango Oil & Gas to My Watchlist, which can find all of our Foolish analysis on it and all your other stocks.

Fool contributor Dan Caplinger doesn't own shares of the companies mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has a disclosure policy.


Read/Post Comments (1) | Recommend This Article (0)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 13, 2012, at 8:13 PM, Kisei wrote:

    Apologies but I do not think the framework used in this article for analyzing MCF is all that useful.

    I look at MCF much more simply -- MCF has two components of value: The value of their proven reserves plus the option value on the exploration projects.

    The latest PV-10 of their proven reserves is around $730 million (based on $3.09 gas price). The Company has $124m of cash and no debt. The Company has also invested in a number of wildcat projects which at cost (so far) is valued at around $70m. Adding this all together you get around $925m of value vs today's market cap of $832m. This is today's value. Of course some of the cost of the exploration projects may be worth zero if they result in dry holes. This is $70m at risk. On flip side if one of these projects becomes productive, then the return will be very great (the last two successful projects -- Nautilus and Swimmy -- have generated cash payback of 1 year and 1.5 years respectively)

    As an aside, in comparing E&P companies it is important to keep in mind differences in accounting and also level of PUDs. MCF uses successful cost method which is the more conservative than the full cost accounting used by most firms. As a result, MCF's running earnings and book value are well understated compared to full-cost accounting companies. In addition MCF's PV-10 estimate comprises almost entirely of proven developed reserves....most other companies have a much higher level of PUDS (proven undeveloped reserves)

    Ken Peak's absence is a clear negative. He is very shareholder friendly and has generated a 7.5x return on capital for MCF. However, the recent news of his selldown of a portion of his position has created a buying opportunity whereby the market cap of the company net of cash is below its PV-10 value. This gives no value to the various projects under development of which 2 will announce results by November.

    Hopefully Ken will be back in the helm soon. If not, perhaps a sale is in order or perhaps Brad Juneau continues as CEO permanently. Brad has been behind much of MCF's exploration success. Let hope he continues Ken Peak's shareholder friendly policies.

Add your comment.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 2015521, ~/Articles/ArticleHandler.aspx, 12/18/2014 4:04:31 PM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement