Plains Exploration Update

Here’s a quick update to the piece I wrote on April 1st regarding one of my favorite energy stocks, Plains Exploration (PXP). If you missed it a few weeks back, you should take a look, but the jist of it was that Plains sold some oil wells to XTO Energy (XTO) and used the proceeds to get rid of some old oil price hedges it had in place (that were preventing it from reaping the full benefits of $50+ oil).

As I pointed out, the stock was up 3% that day, to $36 a share. Since then, oil has fallen from a high of $57 to the current $50, and Plains stock has dropped from 36 to 31. It was obvious that earnings estimates were going to rise with the new strategy, but how much exactly was unclear on the day of the announcement.

Well, a quick look at Wall Street’s updated profit numbers for PXP shows even more of a positive impact than I had anticipated. EPS estimates for 2006 have gone from $3 to $4 per share. The stock, meanwhile, has dropped 15 percent. The current P/E on ’06 is less than 8 times.

On days when oil prices are weak and the stocks are suffering, Plains is one stock that should be accumulated, in my opinion.

Sirius Inks Martha Stewart Deal

Back in the hey day for satellite radio stocks, today’s news that Sirius Satellite Radio (SIRI) has partnered with Martha Stewart Living (MSO) to create a 24/7 radio channel would have most likely resulted in a 10% jump in Sirius stock. Not so today though, as MSO added 6% while Sirius lost 1% of its value.

I think there are many reasons why Sirius shares were down on this news. First, I highly doubt this channel is going to prompt hundreds of thousands of women to sign up with Sirius. Perhaps even more problematic for Mel Karmazin’s company is the structure of the MSO deal. Once again, Sirius’s business model is flawed with this new channel. MSO is putting nothing into the joint venture. That’s right, no cash outlay whatsoever. In essence, they are taking on no financial risk, and getting free marketing in return. Sirius, meanwhile, is footing the entire bill, and not getting anything except hope that women will flock to Sirius to tune in.

XM Satellite Radio (XMSR) continues to lead the industry, with 3 times as many subscribers as Sirius. Even worse, the majority of new subscribers are going to XM. The Sirius model is not working from a financial perspective, as evidenced by their far inferior margins. Deals such as the one inked today are not going to help this company reach cash-flow positive, which is needed for the stock price to prove reasonable.

Interestingly, XM’s market cap still trails Sirius, despite having more than 200% more subscribers and a better path to profitability. Makes for an interesting arbitrage opportunity for the aggressive investor.

Look at MCI Stock Go

Crappy companies these days seem to have a surefire way to get back on the road to riches. Go bankrupt!

Evidently, Kmart wasn’t the only company that could execute this wonderfully successful strategy. Now MCI, the company formerly known as Worldcom, is out of bankruptcy court and it’s stock is flying. Granted, shares of MCIP did get crushed right after emerging from the dead, but if investors timed their purchase well they could have made a nice chunk of change. The stock has doubled from its lows and now sits at post-fraud high of 26.

Contrasting the Kmart and MCI stories is very interesting, to me at least. Eddie Lampert and his hedge fund, ESL Investments, was able to buy half the company on the cheap when nobody else wanted it while it was in bankruptcy. I probably don’t have to tell you, but he has made 900% in two years as the stock has soared from 15 to 150.

It turns out that even though MCI was in the very same situation after their massive accounting fraud was uncovered, nobody swept in to take control of MCI. If they had, they would have gotten a relative bargain. Now we have Verizon and Qwest in a bidding war that is sending MCI stock to new highs.

Why weren’t these companies interested a year and a half ago? All of the sudden they are now and as a result will have to pay the price for such a boneheaded mistake. In any case, I highly doubt there is anywhere near the value in MCI that there was in Kmart.

What Bull Market?

I’m still trying to figure out why I keep hearing investment strategists proclaiming that the bull market remains intact. Do these people really think we are in a bull market? Do the numbers support that conclusion? Does this market feel like it’s going gangbusters? I have to say “no” on both counts.

First of all, the market is down since the turn of the millennium, and we’re more than halfway through the decade already. I hate to break it to everybody, but the bull market in stocks ended in 1999. It was the greatest bull market of all time, lasting a full 18 years beginning in 1982. During that stretch, the S&P 500 returned an average of 19% per year and recorded only 1 down year (a 3% loss in 1990).

It takes more than a couple of down years to get the bull running again. If stocks average 5% a year for the rest of the decade (which I think is entirely possible, if not probable), the average return for the decade will be 2% per year. When stocks fail to keep pace with inflation, it’s not a bull market.

That said, there is no reason investors can’t attain double-digit returns in a bear market. It just means that index funds won’t do the trick. Superior stock selection will.

Why Do Analysts Hate NOVA Chemicals?

Investors can look to three places for thoughts on a particular stock; Wall Street analysts, the company itself, and one’s own personal opinion. Shares of NOVA Chemicals (NCX) have dropped 12 straight points. The analysts hate it (Prudential just slapped a “sell” on the stock yesterday). The company is very upbeat and current earnings estimates look impressive. So why is the stock getting crushed?

I think the main reason is that chemical companies are very cyclical and are extremely reliant on commodity prices cooperating in order to make a nice profit. With input prices rising and uncertainty as to if that trend will continue or come back down to earth, investors are afraid of these stocks.

That said, at what point do we say that all of that has been more than priced into the shares? NCX stock trades at 9.3x 2005 estimates and 5.7x 2006 profit expectations. Yes, that’s less than six times earnings! Even if you use the lowest estimate for 2006 on the Street, you get a P/E of 7.4x.

Investment theory says that low P/E’s on cyclical companies are a signal of a peak in their profit cycle. However, the company is fairly early in their recovery and company executives don’t see 2006 as the peak. Instead, they figure 2008 is a better guess. NOVA is a controversial name in a controversial industry, but I think the stock is worth much more than $40 per share.

Siebel Warning Slams Software Sector

In case you haven’t noticed, software stocks have been very weak recently and a profit warning from Siebel Systems (SEBL) last night only added fuel to the fire. The first quarter is always seasonally weak for enterprise software spending, so poor Q1 reports aren’t totally surprising. I am not a fan of SEBL, but other software names I do like, including Tibco (TIBX) and Ariba (ARBA), are feeling the pain in sympathy with the entire group. As 2005 progresses, business should improve and the stocks should rebound nicely. Today’s prices will be a gift in such a scenario.

Capital One Can’t Hold Gains After Upgrade

Shares of Capital One (COF) opened up more than $1.00 this morning, were up more than $2.00 at one point, and now are unchanged after an upgrade to “buy” from Goldman Sachs today. Oftentimes an upgrade will keep a stock up throughout the day, even when the overall market tanks. Not today, though.

One reason might have to do with this Goldman analyst’s track record on COF stock. The analyst, Michael Hodes, last had a “buy” on Capital One more than 2 years ago. The stock began 2002 in the 50’s and fell to $30 per share by October of that year. Hodes pulled his “buy” rating at $30 and has held to that neutral opinion ever since.

Now trading at $75, Hodes upgraded the shares to “outperform” this morning. Goldman clients must be ecstatic. If analyst ratings were supposed to tell investors how the stock has done in the past, then Hodes’ new rating would make sense, as the stock has indeed outperformed, rising 150% in the last 30 months. Too bad that’s not what he’s supposed to do.

Unlike Airlines, Plains Exploration Updates Hedging Strategy

A press release issued today by Plains Exploration and Production (PXP) shows what smart management teams can do for investors. In prior pieces I have highlighted that mismanagement of oil price hedges has caused the major domestic airlines to lose billions of dollars. A deal announced today by Plains worried me a bit after reading the headline. It said “Plains Exploration to Sell 275 Oil Wells in $350 Million Deal With XTO Energy.”

I wondered why Plains, a stock I own personally and for clients, would be selling oil wells at this point in time. After all, those very wells are the reason I own and like the stock. However, after reading the release I realized how great of a move this was.

Plains Exploration will use the deal’s proceeds of $350 million to eliminate all existing 2006 oil price swaps and collars. You see, all oil companies have some type of hedging program in place, for the sake of some predictability of cash flow. So even if crude oil was $55 per barrel, energy companies rarely get market prices for all of the oil they produce. Plains has 2006 oil price swaps in place involving 15,000 barrels of oil per day at an average price of $25.28 and an average ceiling price of $34.76. With oil in the mid $50 range, you can see that they would have to leave some profit on the table with these hedges in place.

However, eliminating these swaps and collars will cost about $295 million. The proceeds from the XTO deal will more than cover that expense, and the move will tremendously increase future cash flow. “These transactions remove the significant headwind that the company has experienced in 2004 and 2005 from our previous hedge positions, which negatively impacted cash flow,” said Chairman, President and CEO James Flores. In addition, the company has acquired $45 put options on about 40,000 barrels of oil per day in 2006. These options ensure $45 per barrel, whereas the ceiling from their prior swaps was less than $35 per barrel.

Not surprisingly Plains shares are rallying 3% today. Still, shares only trade at 12x 2006 earnings estimates, and those estimates will surely prove too low given the company’s new hedging strategy.

Goldman Bullish on Oil, But Why?

Just like I took the “over” for the Wildcats (70 points) when Arizona faced Illinois in the NCAA Tournament Elite 8 last weekend, I’m going to take the “over” again on the number of energy stocks Goldman Sachs (GS) owns. Today’s $1+ jump in crude prices is being attributed to Goldman’s bullish note today that they see a “super spike” in oil prices on the horizon. Previously, GS had said they thought oil could hit $80 per barrel in such a scenario, but that number was lifted to $105 today, sparking much conversation on the Street.

Call me crazy, but I think the Goldman call had more to do with boosting the stocks they own, rather than some meaningful change in oil fundamentals they saw change overnight. After peaking at $57 or so, oil futures fell $5 fairly quickly in March, leading to a correction in the sector’s shares. By raising their already overly bullish view, this slide would quickly turnaround, stopping the losses from their energy holdings and allowing them to unload some stock at favorable prices if they were so inclined.

Qwest: Hang It Up Already

You would think a telephone company would know when and how to hang up a phone. It’s like a telemarketer; they’re going to give it a good shot, but at some point the odds are good the person you called is going to hang up on you and get back to their dinner. Reports indicate Qwest Communications (Q) is preparing a third offer to buy MCI Communications (MCIP). MCI has already agreed to be bought by Verizon (VZ) twice. Does Qwest really think the third time will be the charm?

MCI wants to merge with Verizon for many reasons, and most have nothing to do with price. If price was the main issue, Qwest would be winning this battle since all of their offers have trumped the Verizon deals that MCI accepted. You really can’t blame MCI for continually rejecting Qwest. The companies are like night and day. Verizon is the best telecommunications firm around. Qwest is one of the worst. Verizon has a very healthy balance sheet. Qwest is mired in debt. In fact, according the Qwest’s year-end 2004 financial statements, assets less liabilities equals a negative $2.6 billion.

No wonder they are desperate to do the MCI deal. If they don’t they’re in serious trouble. After going through bankruptcy court, MCI (formerly Worldcom) has cleared its books of billions in debt. Combining their improved finances with Qwest’s mess would make for a stronger, larger company. However, Qwest management didn’t get the memo yet; MCI isn’t going to merge with you. You can make another high-ball offer and go straight to the MCI shareholders for a vote. Only problem with that is, I don’t know a single person who would want to own shares in Qwest-MCI.

These desperation tactics make me want to short Qwest shares, as I don’t see either scenario (another failed buyout offer or ultimately winning by overpaying for MCI) as boosting shareholder value.