Callon Petroleum (CPE)

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Can Lone Star Get Callon Petroleum Sold?
Mar. 30, 2015 1:53 PM ET | About: Callon Petroleum Co. (CPE)
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More...)
Summary

Tivist Lone Star has been battling CPE for a well over a year now.
E fund got involved when oil prices were much higher.
But they’re still up 15% since going active.
However, CPE continues to defy its activist, despite continuing to give it board respresentation.
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Lone Star Value's tussle with the small oil shale play, Callon Petroleum (NYSE:CPE), has been the ole two steps forward, one step back for the activist. It recently reached a deal with the company to expand the board of directors, with its own nominee getting the new seat. However, this deal came on the heels of the company announcing a nine million share public offering, a move that goes directly against Lone Star's earlier advice.

But have been on a modest tear, up 40% over the last three months, after bottoming out in December.

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But longer-term investors aren't all that satisfied. The stock's still down close to 40% from its 52-week high and down 70% from its 2008 all-time high.

Quick Lone Star-Callon history: The activist investor got involved with CPE took an active stake in late 2013. Then in January of 2014 it announced it was seeking two seats on the board. At the time, Lone Star laid out its thesis, which it appears to be standing by.

The big parts of the thesis being that CPE should refrain from any further dilution of shareholder value by issuing stock, while also ceasing all acquisition activity outside the Permian Basin. Then of course there's the fact that Lone Star wants CPE to explore strategic alternatives, including a sale of the company.

Two months later after Lone Star started putting public pressure on CPE, it expanded its board from six to eight seats in an agreement with Lone Star. Instead of following the fund's requests, however, CPE raised $122 million through the sale of common stock in September 2014 and spent $210 million on acquiring new properties in the Central Midland Basin in West Texas.

Lone Star's new board member will undoubtedly make a renewed attempt to bring about a sale, but the company's recent announcement of another equity raise makes that prospect even more difficult. CPE claims that the public offering is intended to raise money to pay off its debt, but acknowledged that it might use leftover cash to fund its capital program or future acquisitions. We can see how, in this low oil environment, CPE might feel there's good deals to be had in terms of acquisitions.

Contrarian Play Or Value Trap? Initially, Lone Star's involvement seemed to be helping CPE. The stock rallied over 80% in the first half of 2014. Of course, the value of any strategic move was soon buried under the collapsing price of oil.

Since July 1, the stock is down over 30%. Trading at right around book value, the stock looks like a potential deep value play, but it could also be a value trap. And Lone Star is up a mere 15% since its active stake became public in 2013.

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The key issue is that CPE is concentrated entirely in the Permian Basin. The good news is that there is a whole lot of oil and natural gas in the Permian Basin. In 2014, CPE's proved developed oil reserves increased from 6 million barrels to 14 million barrels, and its proved developed natural gas reserves increased from 9 billion cubic feet to 17 billion cubic feet.

The bad news is that Permian oil and natural gas is extremely expensive to get out of the ground. It's been said that current oil and gas prices are below the levels required to break even in the Permian. By some calculations, oil would have to reach $80/barrel for drillers in the Permian to make money.

Strategic Options: Lone Star initiated its position when oil was above $100 a barrel, but it's given no indication that its plans have changed since oil prices were cut in half. There's an argument to be made that a sale now make more sense than ever. CPE's large and growing proven reserves could make it attractive to a larger producer with greater economies of scale. The company has negative free cash flow right now, but a large acquirer could deal with that.

The counter-argument would be that now, when the stock price is depressed, is the worst time to sell. If CPE can push through this period of low oil prices, it can reap the rewards of even greater profitability down the road as well as premium valuations, where larger Permian Basin plays, such as Pioneer Resources (NYSE:PXD) and EOG Resources (NYSE:EOG), are valued at over 2x book value. While CPE is much smaller, it could command upwards of a 30% premium if its reserves are valued more in line with these other producers.


http://seekingalpha.com/article/3039036-can-lone-star-get-callon-petroleum-sold?auth_param=46e5d:1ahj3eo:c9c6eb28ac2ad890f0f668d97544c48d&uprof=45