Saturday, February 27, 2021

Dorchester Minerals LP Retrospective (2007 vs 2020)

We mentioned Dorchester Minerals in our October 2020 post, "What I Would Buy Instead of Tesla". This is a publicly-traded limited partnership that owns producing and non-producing mineral, royalty, overriding royalty, net profits and leasehold interests in oil and gas. At that point the market cap was $358 million (with no debt) and net income for 1H 2020 had been $10 million vs $28 million for 1H 2019.

The stock is up almost 50% since that post - but oil is up 50% too (currently $60/bbl for WTI). The market cap is now half a billion dollars. They distributed $48.2 million to limited partners in 2020. Their average selling prices of oil were high $40s/bbl and for natural gas a bit below $2/mcf.

I looked at an old research report and saw that Dorchester's revenue in 2006/2007 was ~$75 million and ~$65 million with natural gas @ $7 and crude oil in the $60s/bbl. For 2019 and 2020 it was ~$79 million and ~$47 million. Kurt Wulff had a couple interesting observations in his 2007 report:

Normally we would expect a volume decline of about 11% a year for a reserve life index of 9 years. Instead, DMLP’s decline rate is hardly evident despite distributing all of cash flow to unitholders (see graphic from management presentation). The performance enhances the partnership’s status as the oldest and highest quality oil and gas production Master Limited Partnership (MLP) that we know at a time of renewed interest in the organizational format.

The main tax complication of DMLP is that taxable holders must report distributions as partnership income including the separate items furnished in what is known as a K-1 form. For new purchasers, most or all of income in the early years would be sheltered by cost depletion. For depletion purposes conservative reporting of reserves is an advantage because the implied higher depletion means earlier tax shelter.

The share count has increased by about 25% (acquisitions with stock are how they replace reserves) since 2007, but the share price is currently 38% lower, so the market cap is 25% lower. Revenue/mcap back 15 years ago was about 11% and now it's about 14% with crude oil slightly lower and natural gas way lower. Interestingly, at the time the report was written, DMLP was trading for ~$23 and from 2007-2020 it paid $26 in distributions. Currently trading for $14.

Dorchester's PV-10 of reserves at year-end 2020 was only $137 million. However, the PV-10 is based on the 12 month average oil and gas prices which were depressed in 2020. (Oil was $32.43 and gas was $1.)

Remember the most important quote from the book The Shipping Man:

"[H]e who is the most bullish on the market, or has the lowest cost of capital, or has some other personal motivation for doing a deal, or ideally all three, wins the ship. Everyone else does nothing but talk about the very good and rational reasons they have for not doing deals. The simple fact is that you must take a view on the market."

Dorchester is at a big premium to a reserve value - at much lower hydrocarbon prices. To buy it, I think you have to have the view that, while electric vehicle sales may continue to slowly grow, the worldwide ICE vehicle fleet is going to keep growing too. Plus petroleum is irreplaceable for diesel and kerosene prime movers

The result if you believe those premises is that oil (and many other commodities) will need a bull market here in order to recruit commodity investors to expand production again. 

Remember that U.S. explorers and producers lost an incredible amount of money over the past decade. They burned their debt and equity investors, and discipline will be restored by investors who force them to "accept life in a declining industry, slash costs and ramp up returns of capital to shareholders".

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