Wednesday, March 30, 2011

The guy in charge of purchasing acreage at Northern Oil

Northern Oil is not a traditional oil exploration and production company. It has a simple model. It buys part shares in acreage in the Bakken shale. It waits until the major holder develops the acreage and it pays a proportion of the development costs and receives a proportion of the revenue.

That allows it to be a 1.6 billion dollar company with only 11 staff.

The only expertise it brings to the table is buying acreage. And they buy it at a wide scatter of prices.  They have paid $2500 or more an acre for some small (and presumably productive) lots. For example they paid $2500 an acre for 1748 net acres in Williams and McKenzie County of North Dakota during 4q 2010. They have paid less than 250 an acre for some very large lots. In the last quarter they purchased a 50% working interest in approximately 14,538 net acres in Richland County Montana for less than $250 an acre in the same quarter. In that case the acreage was purchased from the operator (Slawson) and presumably the operator had better-than-average intelligence as to the quality of that acreage.

The supporters of the stock value the stock based on acreage owned. This is obvious enough because you most certainly would not want to value it against current earnings or current revenue.

Given that acreage purchase is the whole reason for owning Northern Oil and believing the Northern Oil story it is worth following the people who manage acreage purchase. Betting on Northern Oil is above all betting on those people.  Northern Oil after all buys acreage in a scatter of prices almost all below $3000 an acre with large purchases below $250 an acre but is valued by the market at about $8600 per acre.  The acreage buying is the driver of incredible (market) value.

So without further ado I will tell you that the Land Manager of Northern Oil is Mr Kruise Kemp. Kruise Kemp has been hanging around the courthouses of Montana swooping on land where leases have expired without ever being drilled. An old article in the Billings Gazette describes the process and says how lease holders in Montana look in envy on the lease holders of North Dakota because in North Dakota the land often gets drilled whereas in Montana leases expire without ever seeing the drill bit. To quote:

Kruise Kemp is no stranger to the courthouses of northeastern Montana. The land manager for Minnesota-based Northern Oil & Gas said there are several buzzing with the land men just like Richland County's. 
Many of those speculators are looking to "top lease," meaning their sniffing out existing oil leases that are just about to expire in hopes of swooping in to strike up a new deal just as the clock runs out. 
In these parts, Montanans, some with leases that went untapped, have looked in envy toward North Dakota where drilling rigs have cropped up like knapweed the last couple years. There are 138 rigs punching holes through the shale in North Dakota. Here, there is only a handful. 
Kemp said the state of North Dakota had provided oil companies with a wealth of services including online field data that made it easy to setup. And drilling rigs attract other drilling rigs. It's a safe assumption when you see other rigs active in your area that you're going to hit something. Having so many rigs drilling in one area puts pressure on companies to permit as many wells as possible before moving on. 
But now companies are turning to Montana to further define the productive area of the Bakken. Working with two other companies, Northern launched a new 3,000-acre project in Richland County this month and has two others nearby.

You see Northern is buying the land where the drills aren't. Of course this makes it cheap. It could be cheap for a reason - the drills not being there because it is not really all that good land. Or it could be that Northern Oil is really great at finding cheap acreage that really is super-prospective.

Well as investors we can't directly know. We don't see the seismic and we are not there with the drill bit.  

All we have to go on in the people. And so I present to you a picture - a couple of years old - of Mr Kruise Kemp.




He played golf for Montana State and was a business school graduate (no particular honors) in the spring of 2010.  A nexus search identifies him as 23 years old.

So what qualifies Kruise Kemp for such a senior role in a 1.6 billion dollar company? Well it is not his finance degree. But Kruise is steeped in the oil industry in Montana. His father owns or controls a couple of oil companies. (I can find their names but not much detail about them.) His late grandfather was also an oilman.

Northern Oil has also done many related party transactions to buy acreage.  If the company is buying acreage from directors then I guess it is incumbent on the land manager to vet those purchases. Kemp is the man with that job.

We view Kemp's age and business degree (rather than say a major in geology or reservoir engineering) with skepticism. Then again we own Google. That is one of the greatest companies in history and it was started by (very bright) people in their 20s. Steve Jobs was 16 when he was introduced to Steve Wozniak and Apple was the result.

It could be that Montana State University business school has produced one of the world's great 23 year old oil-industry entrepreneurs. Might be. As a Northern Oil shareholder that is one of the things you are betting on.



John

17 comments:

Anonymous said...

One of your better lines, "It could be that Montana State University business school has produced one of the world's great 23 year old oil-industry entrepreneurs. Might be. As a Northern Oil shareholder that is one of the things you are betting on" LOL

Please stay on top of this one. The seekingalpha crowd is fighting amongst themselves (similar to CCME)trying to figure out the conspiracy.

I myself think the simple answer is as you state, this company is surely a flying pig. You're bringing back the gravity (or should I say levity =)

dh said...

LOL =)

"It could be that Montana State University business school has produced one of the world's great 23 year old oil-industry entrepreneurs. Might be. As a Northern Oil shareholder that is one of the things you are betting on"

Anonymous said...

What you failed to mention in your article is the fact that the Bakken play originally started in NE Montana and then expanded into North Dakota. The oil companies are now back looking at Montana to further expand in potential areas with the new knowledge they have gained on drilling and completion techniques since leaving Montana for North Dakota.

Anonymous said...

I remember getting concerned when during the roadshow for their last equity raise, the CEO told me he frequently purchased acreage via text message.

WSM said...

John -

Where do you get your $8,600 per acre valuation?

I am getting something closer to $10,600 - using ~$1.6B mkt cap and 153,170 net acres (from p. 20 of the 10-K).

http://www.sec.gov/Archives/edgar/data/1104485/000110448511000011/form10k.htm

Am I missing something?

Nick said...

"Text message"!? What is this? The nineties?
Surely he has an iphone or at least a Blackberry.
Sheesh.

You would have thought that when the market values your acreage at $8,600 and you are buying sub $250 you would have to be VERY price sensitive... oh, wait.

While shorting NOK might be fun, I think a better moneymaker would be to send someone to bid on acreage where Kruise can't, owing to lack of manpower. Then sell the land on to him. I mean there is only one of him, he probably needs some help and he can pay up to $8,599.
The IRR on $8,599/$250 over a couple of days isn't bad.

John Hempton said...

Take out some cash and some capitalizd development costs... of course how much you take out depends on depletion charges.

I am rounding all numbers to be generous to the company.

I am a nice guy!

John

michaelgmoore said...

I'm really impressed by your due diligence.

Anonymous said...

"the guy in charge of purchasing acreage at northern oil" is my younger brother and I couldn't be more prouder of his hard work. He will surely be the world's great oil industry entrepreneurs of our time, and I think northern oil is merely just a start for him. He has earned everything in his life and he has been a hard working montana guy growing up paving the way for his own future. Even at the young age of 23, No 40-50 year old could fill his shoes. Some of the greatest entrepreneurs have been young and my brother is no exception. I think any investors, companies, and anyone from any walk of life would be lucky to work with him, be around him or just listen to his thoughts. Any company/investors would be wise to keep him as a close ally, as he is sure to be in the industry longer than any of the current entrepreneurs and will certainly be a strong contributor to the industry. I'm a surgeon and have encountered many great people in my life, but none as brillent, adept and capable than by brother.

Like I said, couldn't be prouder! Not just of his work, but because of the person he is. He is extremely charitable, kind, funny, and truely a class act! Take it from hundreds of people that have already worked with him. He is a 23 year old that many look up to and so do I.

- Proud sister.

Todd said...

"[NOG] has a simple model. It buys part shares in acreage in the Bakken shale. It waits until the major holder develops the acreage and it pays a proportion of the development costs and receives a proportion of the revenue."

John--how do you reconcile that business model in which they profess no technical/geologic competence with their willy nilly acquisition of acreage? Are they buying acreage and then selling rights on to drillers are they buying participation rights from the drillers? In either scenario, they would appear to be the suckers at the table.

In any event, thx for sharing this idea.

Anonymous said...

Wow, they have definitely dropped the basic grammar classes from med school.

Petty I know, but really.

joe-thomas said...

John: Thanks for this series of posts. Very interesting and well said.

Todd: Background is Twin Cities Business and SmartMoney.

"For now [2008], Northern is more than happy to act as a minority partner in drilling ventures. “We don’t bear the infrastructure or overhead burdens of the operators,” Reger points out. “We pay for 25 percent of the well and get 25 percent of the wealth. A company like EOG pays for 75 percent of the well and gets 75 percent of the wealth. But EOG probably has 15 salaried people working on this well. And they also pay all that overhead for their offices in Houston and Denver, and legal fees to permit a well, and surveyors to survey it. They cover all those costs.” - TC Business

"It leases land to operators in exchange for production royalties of 3%-to-37% (with an average working interest of 10%) and with little control over output." -- SmartMoney

And they believe that Reger’s 80-year family history in the Williston Basin oil business gives them an edge in leasing the best acres at the lowest cost. “We’re expanding our position and doing it better than anyone else because my family—it’s our basin,” Reger says.

Reger’s great-grandfather moved from Texas to Billings in the 1930s as vice president of land for Mobil Oil’s Rocky Mountain operations. His grandfather, Jim, cofounded Billings-based oil-exploration firm Norsworthy & Reger in 1952. His father, Randy, recently retired as CEO of mineral-lease brokerage Reger Oil. His uncle Steve heads lease broker Montana Oil. -- TC Business

Anonymous said...

John,
The perfect pump and dump scheme?

1. Pay market value ($2,500-$5,000/acre) for land which you expect will be drilled with high success rates. You don’t have to buy much since there aren’t enough rigs to drill anyway.

2. Buy lots of other land very cheaply ($250/acre) that is at best highly speculative.

3. Let the clever investors and analysts (who get underwriting fees?) attribute the $2,500-5,000/acre value to the speculative land that won't be drilled soon. Presto, you’ve just multiplied the value by 10-20x.

4. Raise more equity at the high value attributed to the speculative land and repeat steps 1-3.

5. Most important, sell as much stock as you can as an insider before you drill on any speculative land.

But the brilliance of the scheme is the biggest problem for the short. They can continue to drill on good land over the next couple years and never need to tap the speculative land.

If correct, what is the trigger event if they don’t drill a dry hole and the accountants don’t require them to book higher depletion rates? You could be sitting on this for two years carrying all the oil price volatility with it. Terrible stock but dangerous short if you can’t convince the rest of the investors this is a house of cards. Something I’ll watch with interest – from the sidelines.

Good luck!!

Anonymous said...

John,

Thanks for all of the great work on NOG -- truly noble work IMO. I noticed NOG last fall and had plenty of skepticism based on my network here in Minneapolis. So much so that I went short and was hurting a bit until you eloquently pointed out the many flaws in the logic. Now I'm well into the black. IMO, this is not just irrational enthusiasm, but a downright manufactured scam with many players, which makes it a somewhat risk short. Thankfully, you are keeping them in check. We will all see how it plays out. My guess is the average value of their landholdings is <$1.5k per acre.

The emotional response from the landman's sister made me chuckle. She clearly doesn't get your point.

Thanks Again,

Anonymous

Anonymous said...

Also, they seem to have gotten mileage out of the idea that they don't incur the same costs as the oil companies doing the drilling. It seems to me it would be very easy for the oil companies to include these costs in the cost of drilling the wells -- overhead, indirect labor, etc. And, even if there is some cost benefit, it seems like it would be a very minor factor in the valuation. You could probably get some mileage out of picking this apart. It seems you could get an oil company to provide insight into this calculation on a quarterly conference call Q&A session. Also, what about the concerns related to fracking? Somehow I think you are 2 steps ahead of me and are already working on these points!

Anonymous said...

Another penny stock linked to these is ante5 inc (ANFC) Steven Lipscomb & Lyle Berman recently left but son Bradley Berman is looking after for daddy

Anonymous said...

I wonder how many wells in the Bakken Bronte Capital has gone working interest in? I wonder how old the guy is who wrote this article. Did he work for his college newspaper? Was he hired by Bronte Capital not for his skills in investing but for his great skills to write literature? When your in the shadows its easy to be a critic. Just remember, nothing you read anymore is 100% true or it would just be another boring story that gets no attention. I think NOG is a great success. Im pretty sure the people working there have more knowledge about oil and gas than most, otherwise this capital firm would start an oil and gas company. Last of all my brother work for an investment banking firm in Los Angelos which he left after a short period, and told me to take things they say lightly. He claimed that they are full of their opinion and have too much time on their hands. (for example, this article i am responding to) I did laugh a few times, thanks bronte capital! Im long oil and gas! I think NOG is underpriced, Im a buyer!

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