Wednesday, January 11, 2006

The Tale of Two Oil Companies
ARD v GEOI: Only One is Destined to Succeed.

Lets take 30 seconds to look at some charts to see which company is destined to succeed and which one is doomed to fail.

The charts speak for themselves. Below is exhibit #1, "Lifting Costs per BOE Produced." Clearly ARD is far superior to GEOI in lifting costs per BOE produced without a doubt.

(Click on image to enlarge)

Below is exhibit #2, "Total Cost per BOE Produced." Note how GEOI total costs are skyrocketing in Q3 while ARD total costs are declining.

Clearly ARD is far superior to GEOI in total costs per BOE produced without a doubt. In the next chart we take a look at total oil and gas production in terms of BOE.

Clearly ARD is far superior to GEOI in oil and gas production without a doubt. The next chart shows EBIT per BOE produced. This is a measure of earnings before taxes for each and every BOE produced.

Clearly ARD is far superior to GEOI in EBIT per BOE produced without a doubt.

It is easy to see that GEOI is an oil and gas company in decline not only in terms of rising cost structure and declining EBIT per BOE produced but also in terms of production. In light of these trends GEOI is without a doubt a company to avoid. The shares are currently overvalued ($10 per share.)

In contrast, ARD shares are undervalued at current levels ($33 per share) and provide the investor the opportunity for handsome rewards in 2006. To understand what the future holds in 2006 please read the ARD blog.

Friday, December 09, 2005

A Closer Look at GEOI Costs
Are Costs Spiraling out of Control?

The first step in determining the GEOI cost structure is to figure out how much it costs to produce the oil. More specifically we need to look at the costs as they occur out in the oil fields. As the oil fields are usually leased by the oil producers these field expenses are commonly referred to as lease operating expenses. Lease operating expenses are usually abbreviated with the letters LOE. LOE comprise such mundane items as contract labor, supplies and tools, groceries and food, surface repairs and maintenance, road maintenance, gathering, meals and entertainment, etc. It would be correct to say that LOE is a good measure of production costs out in the oil fields. This measure (LOE) also includes production taxes because part of the cost to get the oil and gas out of the ground includes production taxes.

Lifting Costs

The sum of production costs and production taxes essentially equals LOE. LOE is an excellent measure of the cost to lift the oil out of the ground. Therefore,we can use LOE as our lifting costs. This line item is often times found in the income statement as 'LOE.' Some companies list LOE as 'production costs.' This figure is also found in the Notes to Consolidated Financial Statements, " Results of Operations from Oil and Gas Producing Activities."

GEOI's income statement lists 'Oil and gas production' under "OPERATING COSTS AND EXPENSES" on the income statement. The 2004 10K has the income statement on page 37. Now turn to page 56 and reference note N, "Oil and Gas Producing Activities." Here you will see that production costs match the amount listed on the income statement. It can also be determined that production taxes are part of these costs as there is no separate line item in these notes.

Keep in mind that depletion, depreciation, and amortization (DD&A) is not part of lifting costs. We are only looking at the cost to get the oil out of the ground.

In summary, lifting costs will give us a good idea of how expensive it is to produce oil. More specifically we are looking at lifting cost per BOE (barrel of equivalent) produced. We want to know how much it costs for GEOI to lift each BOE produced in any given year or any given quarter. Once these results are known the first step is looking at the trends and seeing if the costs are increasing or decreasing.

The chart below chronicles the trends in lifting costs at GEOI.

(Click on image to enlarge.)

Clearly the trends in the lifting costs are not very good. In fact they are terrible. It is especially disturbing that the costs have risen dramatically in the latest quarter, Q3 2005.

Total Costs

The next step in looking at cost structure is to add in D&D (depreciation & depletion) along with G & A (general & administrative.) DD&A is the portion of capitalized costs that are expensed on the income statement and consequently decrease earnings. Capitalized costs are those costs used in acquisitions, development and exploration. Capitalized costs are NOT expensed on the income statement. Since costs used in production are NOT capitalized they ARE expensed and consequently subtracted against earnings on the income statement. The above statements are only true if a company is using the full cost (F.C.) method of accounting. If an oil and gas company used the alternative accounting method of successful efforts (S.E.) then the above statements would not be true. Since GEOI uses the F.C. method of accounting we will only focus on this method as described.

The chart below essentially adds DD&A and G&A to the above lifting costs to get the Total Costs. Total costs give us the big picture of the company's overall cost structure. Like lifting costs we also must determine what the total cost is per BOE produced. These per BOE costs are absolutely essential in determining what an oil and gas company is worth.


The higher the cost structure the lower the profit margins. The lower the profit margins the lower the valuation that must be placed on those associated oil reserves. Alternatively, the lower the cost structure the higher the net profit margins. The higher the net profit margins the higher the valuation that must be placed on those oil reserves.

While it is true that company "A" could have a higher cost structure than company "B" and still have a higher net profit margin we must refrain from passing judgment on company "A" until we determine how much it earned per BOE produced. Company "A" could have a higher grade of oil than company "B" and consequently it could earn more per BOE produced and a higher profit margin.

For now lets stay focused on total costs per BOE produced. The chart below depicts GEOI total costs per BOE produced the last 6 years. The latest quarterly results are also presented. It is obvious that costs are spiking and this will lead to problems for not only GEOI but also the shareholders of GEOI due to pressure on valuation of proved reserves.

(Click on image to enlarge.)

Higher costs equals lower valuation on proved reserves all things being equal. As valuation of oil reserves declines so does the value of the company and consequently the shares of GEOI stock. This is a primary reason why GEOI shares have fallen by over 50% in the last 6 months. So even though the price of crude may rise, the valuation of GEOI proved reserves may be flat or even lower over time.

Why Cost Structure is so Important

Cost structure is very important in any company no matter if it is an airline, a restaurant, or an oil and gas company. Companies with higher cost structures than their peers nearly always suffer from lower profit margins, less net income, and less earnings per share. Companies with higher cost structures and lower profit margins also have less margin for error when it comes to conducting business. In other words, companies with the higher cost structure are less insulated from falling prices.

In the case of GEOI falling prices could come as a result of declining oil prices. This could be a result of any number of reasons. Therefore if oil prices would ever go lower GEOI and companies like GEOI with extremely high cost structures will be the first to suffer. The suffering will come in the form of a net loss for the quarter. While I feel oil prices will remain steady to higher over the longterm GEOI provides the investor less margin of safety.

The Causes of GEOI High Cost Structure

The primary drivers behind GEOI high cost structure is the steadily increasing LOE (Lease Operating Expenses) and the declining production from the associated oil fields.

The chart below is worth a thousand words when discussing production and why production costs per BOE have continued to rise steadily over the same time period.

(Click on image to enlarge.)

GEOI management has admitted that they are incapable of actually increasing production. In the latest quarterly report CEO Jeff Vickers stated, "...With the two additional wells we plan to drill before year-end we are seeking to stabilize our production..." You know it is a red warning flag when the company plans to drill 2 new wells but those wells are only able to slow the decline in production (NOT INCREASE PRODUCTION.)

After analyzing lifting costs, total costs, and production we have taken a very important first step in understanding why GEOI is not a good company to invest in. Given the facts and the statement by CEO Jeff Vickers it is evident that the trends in rising cost structure, decreasing production over the long term, increasing cost per BOE produced and pressure on the valuation of GEOI's proved reserves will continue.

In my next post we will compare GEOI with other companies. One of the companies will be Arena Resources: Ticker symbol ARD. Investors will see what cost structure and production charts look like at a quality oil and gas company. This will further serve as a warning to those who remain invested in GEOI shares. It will also further serve as an opportunity for those investors who are not afraid to go short on GEOI shares.

Data for Charts taken from SEC Filings that include: 2001 10K , 2004 10K and 2005 3Q 10Q.

Thursday, November 24, 2005

Why Geoi is not a Quality Company
Cost Stucture Plays an Important Role in Stock Performance.

Lets examine GEOI cost structure by taking a close look at average cost per BOE (Barrel of Equivalent**)

_______Net_______ Average_____ Oil & Gas
_______Prod_______Price_______ Cost Per
Year___(BOE)_____ _Per Boe______Per BOE*
1999__183,696____ $14.70______$6.61
2000__166,846____$26.75______ $9.94
2001__151,832____$20.25______ $12.23
2002__142,197____$21.10______ $11.39
__137,237____$26.42______ $13.02
2004__123,831____$36.05______ $15.53
05Q1__26,519____ $43.25______ $16.31
05Q2__29,323____ $44.90______$17.30

*Cost per BOE does NOT include DD&A, SG&A, or Taxes.
** 6 Mcf gas = 1 BOE

Note how Cost per BOE has risen by over 3.5X since 1999

Note also how production has been in decline since 1999.

"GEOI would be losing over $2 for every BOE produced if oil and gas prices ever declined to 2002 prices."
-GEOI Analyst and Author of Energy Investment Blog

"...Future production costs..."
-GEOI risk factor stated in Form 10QSB Dated Nov 14, 2005

The average cost per BOE produced contiues to rise independent of O&G prices. Margins will be squeezed and if prices drop far enough it will not be profitable for GEOI to produce oil. The primary driver of increasing cost per BOE is declining production in concert with increasing costs to extract the oil. The steadily increasing fixed costs are spread out over a smaller and smaller production base.

Even with GEOI taking steps to stem the decline in oil production which has been happening since 1998 the company will only be able to slow the decline in oil production. Fixed costs will continue to rise. Consequently, average cost per BOE will also continue to rise.

GEOI is NOT a Quality Oil an Gas Producer.
A quality oil and gas producer would have increasing production over the longterm and have decreasing costs per BOE (even with increasing fixed production costs.)

In our next update we will compare GEOI with another oil and gas company which I consider to be a quality O&G producer.

Disclosure: The author of this research has no position in GEOI either long or short. The analysis is unbiased. The Author has had a STRONG SELL rating on GEOI since end of July and GEOI share price has dropped from $14 to $15 range to current price since then.

Thursday, November 17, 2005

Doktor Stocks Recommendation List
Strong Buy:
1. Arena Resources: Ticker Symbol: ARD (Quote) (Chart) (Blog)

This company has not only production and reserves per share but also a very low cost structure. Management team has proven track record of stellar performance. ARD shares are up from $13 range when I bought my first shares in late July 2005. Click Here to find out more information about ARD.

ARD 2006 Price Target = $50 This represents a 117% increase from current price of $23. Expect well over $2 in EPS. To be conservative I use $2. This company is growing over 50% per year. I will only provide a P/E multiple of 25 to be conservative. The result is $2 X 25 = $50.

2. Ultra Petroleum: Ticker Symbol: UPL (Quote) (Chart)
This company has some of the largest natural gas reserves in the United States in the Wyoming Pinedale Anticline. Their cost structure is the lowest in the industry and their record of increasing production makes this a very attractive investment.

UPL 2006 Price Target = $75 This represents a 44% increase from current price of $52. I expect UPL to post EPS of $2.50 with a P/E multiple of 30 based on expected future growth rate. Growth driven by increased downspacing to 10 and eventually 5 acre spacing on WY properties. Look for increase in proved reserves to also drive price higher.

Doktor Stocks Red Flag List
Strong Sell:
1. GeoResources Inc: Ticker Symbol: GEOI
This particular company has a record of production that is unbeatable. Unfortunately it is a record that is unbeatable in that I have yet to find another oil company with a longer period of continuous declining production. As production declines cost structure will continue to rise. There is little chance of a 2006 capex program to turn this company around.

GEOI 2006 Price Target = $7 This represents a decrease of 14% from current price of $8.15. Leonardite production facility is no more. Western Star Drilling is break even at best. Oil production is in decline with little expectation for any actual increase YoY. Even with rising oil prices I expect GEOI to fall to $7 in 2006 as investors seek oil companies with increasing production and a more favorable cost structure. Decrease in share price is softed by rise in oil prices.

Monday, October 17, 2005

GEOI Resources Inc

GEO Resources: Ticker Symbol GEOI

GEOI is an oil and gas company with many problems. Lets take a quick peak at Geo Resources and find out what some of the problems facing the company are. This two minute drill should give us opportunity to make a quick buy sell decision on the stock.

Keep in mind that a quality oil and gas company has INCREASING PRODUCTION and INCREASING RESERVES along with DECREASING COST PER BARREL PRODUCED.

GEOI Problems begin with Production:

1. DECREASING PRODUCTION. Production is decreasing not only quarter over quarter but also year over year. This has been a trend for over 6 years. Here is PRODUCTION data taken from various 10K reports going back 6 years:
1997: 211,000 PEAK PRODUCTION
1999: 182,000
2000: 165,000 (decline of 17,000 or 9%)
2001: 150,000 (decline of 15,000 or 9%)
2002: 140,000 (decline of 10,000 or 7%)
2003: 136,000 (decline of 4,000 or 3%)
2004: 123,000 (decline of 13,000 or 10%)

Commentary: Since 1999 GEOI oil PRODUCTION is down over 32%. This means GEOI has been averageing PRODUCTION DECLINES of precisely 6.5% each year for the last 5 years.

PEAK OIL PRODUCTION was in 1997 when GEOI produced 211,000 bbls of oil. GEOI will never again come close to peak production. Their production and reserves will be in decline until it is no longer economically feasible to produce even on barrel of oil.

The decline is caused by numerous factors. The two most important and problematic factors are decreasing underground pressure, increase in the water-cut (water cut is the increase in water as a percentage of oil produced.)

2. DECLINING RESERVES. GEOI proved reserves are in fact in decline and have been so for the last 3 years.

Proved Reserves as per the latest 10K (Annual Report):
2002: 2,487,000
2003: 2,458,000
2004: 2,342,000

PROVED RESERVES are declining 3% a year since 2002.

3. INCREASING COST PER BARREL OF OIL PRODUCED. The cost per bbl produced has been steadily INCREASING as GEOI oil production has been DECREASING. As fixed costs trend higher, they are spread over a decreasing oil production curve. The result is INCREASED cost per barrel produced. At some point it WILL become uneconomical to continue to produce even one barrel of oil. The decline production curve will only continue to get worse. GEOI is currently utilizing water injection as a secondary recovery method to produce as much of the remaining OOIP (Original Oil In Place) as possible. Water injection is a secondary recovery method and one must keep in mind that this is a signal that the end of production is NEAR.

4. MANAGEMENT IS UNABLE TO HALT PRODUCTION AND RESERVE DECLINES. Are you concerned that management is NOT able to increase production (and decrease cost per bbl produced.) They are only able to SLOW the decline in production of oil and gas.

5. TWO ADDITIONAL WELLS PLANNED FOR 2005 WILL ONLY STEM PRODUCTION DECLINES NOT INCREASE PRODUCTION. In the latest quarterly report CEO Jeff Vickers stated, "...With the two additional wells we plan to drill before year-end we are seeking to stabilize our production..." You know it is a red warning flag when the company plans to drill 2 new wells but those wells are only able to slow the decline in production (NOT INCREASE PRODUCTION.) It is expensive to drill wells. If the wells can't increase production this is a signal that the oil field is extremely mature and nearning the end of it's useful life.

In summary it is easy to see that GEOI is destined to stay flat to lower over time based on fundamentals, rising oil prices, decreasing production, and the whole host of problems that we have UNCOVERED here today. I would not recommend buying GEOI shares and would certainly not recommend holding the shares either. I have a STRONG SELL on GEOI shares based on the above factors.