Please ensure Javascript is enabled for purposes of website accessibility
Free Article Join Over 1 Million Premium Members And Get More In-Depth Stock Guidance and Research

Who Will Follow Kodiak Oil & Gas to Be the Next Bakken Buyout?

By Tyler Crowe - Jul 21, 2014 at 3:46PM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

Kodiak Oil & Gas just decided it was best to be in the hands of a bigger player, could Oasis Petroleum or Triangle Petroleum decide to do the same thing?

Despite the fact that Kodiak Oil & Gas (NYSE: KOG) has decided to be acquired by Whiting Petroleum ( WLL ) for slightly less than market value for similar deals recently, Wall Street seems to love the transaction. Both Kodiak and Whiting have seen shares climb by 10.1% and 10.4%, respectively, following the announcement, which suggests there might have been something bigger to the deal. Let's take a look at what has changed recently for Kodiak and how that could impact other smaller players in the Bakken such as Oasis Petroleum ( OAS ) and Triangle Petroleum (NYSEMKT: TPLM).

Source: Chesapeake Energy Media Relations.

Exposing Kodiak's flaw
The first thing that stands out to investors for Kodiak Oil & Gas is its incredible growth story over the past few years. Since the first quarter of 2012 to today, the company has seen production and revenue grow by 7.41 and 7.5 times, respectively. This makes it one of the fastest growing oil producers in the country:

Company Production Growth 2011-2013
Kodiak Oil & Gas 741%
Whiting Petroleum 138%
Oasis Petroleum  317%

Not only that, but the company has a prime acreage position in the Bakken formation, which is becoming a more prolific oil reserve by the day. Thanks to better drilling technology and more experience in drilling tight oil wells, the total recoverable amount of oil in the region has more than doubled to 7.38 billion barrels of oil since the U.S. Geological Survey's first assessment of the shale play, and top companies in the region even consider that to be a conservative estimate. This means that the 2,100 or so potential drilling locations Kodiak has on its books may only be scratching the surface of this company.

This huge surge in production and Kodiak's push to tap that potential has come at a cost -- its financial health. Along with that revenue growth, its total debt has tripled to $2.25 billion because the company's capital expenditures have been outpacing its cash flow. The theory is that its increased production and revenue would catch up to its debt load, and it would start to generate free cash flow.

In most cases, this theory was starting to work, but one recent change for producers in the Bakken region has changed that dynamic, and that is North Dakota Industrial Commission's decision to limit natural gas flaring at wells. According to the commission, any well that cannot reduce flaring at the well by 74% by October will not be allowed to produce more than 200 barrels per day at each well. Not only will this involve preparing new wells to capture gas, but companies will also need to go back to previous wells. Kodiak doesn't really have the financial flexibility to go back and make those installations at previous wells, nor could it risk having its wells' production be so constrained. By combining forces with Whiting, the combined company will have a bit more financial flexibility to make the necessary fixes at its new and existing wells.

Who's next?
Kodiak Oil & Gas isn't the only one that has employed this growth strategy in the Bakken, and several other companies that are either Bakken-centric or have smaller assets in the region will also struggle with these new regulations. The companies that immediately come to mind are Oasis Petroleum and Triangle Petroleum because they are pure plays, but two other companies that could be at risk here are Halcon Resources ( HK ) and Magnum Hunter Resources (NYSE: MHR). While Magnum Hunter and Halcon do have assets elsewhere, they have both been using the Bakken as a production base to generate revenue while they explore less established shale formations. Based on the cash flow at these companies, they can ill afford to see production limited in the Bakken.

Company % Production From Bakken (on Boe basis) Total Wells in Bakken (net) % of Capital Expenditures Covered by Operational Cash Flow (LTM)
Oasis Petroleum 100% 406.2 29.2%

Triangle Petroleum

100% 39.6 19.5%
Magnum Hunter Resouces 31% 98 7.2%
Halcon Resources 71% 188 23.8%

Source: Company 10-ks and S&P capital IQ, authors calculations.

Magnum Hunter has already been in the process of linking its current and upcoming wells to a natural gas gathering system to reduce flaring, so it may be in a better position than the others on this list in that regard. However, if these companies are already struggling to finance operations before these flaring regulations start to take hold, then don't be surprised if they follow a similar path to Kodiak Oil & Gas and sell either its Bakken operations or sell out entirely.

What a Fool believes
The next several months will be very interesting regarding the future of the Bakken. These new regulations will put immense pressure on companies that have not been dealing with natural gas, especially the smaller ones that are already financially stressed. When you add this little wrinkle to the mix, it's a little easier to understand why Kodiak has decided to be acquired by a bigger fish in the Bakken pond for a less than premium price. Investors with a stake in the region should really keep an ear to the ground, because it's very likely that we will see another similar deal soon.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Oasis Petroleum Inc. Stock Quote
Oasis Petroleum Inc.
OAS
Halcón Resources Corporation Stock Quote
Halcón Resources Corporation
HK
Whiting Petroleum Corporation Stock Quote
Whiting Petroleum Corporation
WLL

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning service.

Stock Advisor Returns
624%
 
S&P 500 Returns
140%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 12/06/2021.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Our Most Popular Articles

Premium Investing Services

Invest better with the Motley Fool. Get stock recommendations, portfolio guidance, and more from the Motley Fool's premium services.