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Wilf Gobert

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Beyond the boom

Wilf Gobert


CALGARY (GlobeinvestorGOLD) — If you use natural gas in your home or business, you are well aware of the persistent high prices over the past four years, compared with any year prior to 2000. If you read about energy issues in North America, you are also aware that consumers are facing a big problem: supply is failing to grow despite the fuel's compelling advantages.

So, other than investing in shares of producers of natural gas (who are facing increasing capital costs to achieve a declining rate of success), how do you invest in beneficiaries of the high price of natural gas? Try looking at oilfield services, specifically Calfrac Well Services Ltd.

Calfrac's share price over the past 12 months.

Calfrac is a newly-public company after a reverse take-over (RTO), whereby Denison Energy Inc. (in its former life, it was primarily a producer of uranium, first listed on the TSX in 1960) purchased all the shares of Calfrac, a private company based in Calgary, Alberta.

Denison first shed its uranium assets into Denison Mines Inc. and its oil and gas assets into Denison Resources Inc. (which then did an RTO by purchasing Forte Oil Corp., a private Alberta explorer). After a consolidation of shares in March, 2004, Denison issued treasure shares to the public at $15.50 per share, and purchased Calfrac for shares and cash. The founders and management of Calfrac now own 43 per cent of the shares outstanding.

Why buy Calfrac, now trading at $23.50 per share? First, a little backgrounder on energy supply. Low crude inventories worldwide have caused crude oil prices to average $28 (U.S.) a barrel over the past four years. That is certainly helping natural gas prices. However, the bigger issue for natural gas is that Canadian production reached a peak in 2001 and has fallen modestly over the past two years, a dramatic reversal in the history of the industry. With no growth in U.S. production, the concept of natural gas as the fuel of choice for North American consumers has come seriously into doubt. High prices will be sustained until it causes demand to drop, or supply to rise, or both.

In Canada, the future of the natural gas industry is to look deeper, look to existing gas wells that may have prospects at a different geologic age than the source of current production (called a recompletion), and look for natural gas in coal beds (coal bed methane — a huge source of new supply in the United States, but embryonic in Canada).

Calfrac's principle business is gas well fracturing, a stimulation process whereby an artificial propellant called "sand," is pumped at high speed, under pressure and with chemicals, into a wellbore, causing the rock to fracture, thus improving the ability of natural gas to flow into the wellbore. The attraction of the gas well fracturing business is that activity is not sensitive to oil prices (unless it causes gas prices to fall), and activity is not dependent on the drilling of new wells, as old low productivity gas wells are prospective new gas wells in a different zone. And if prices remain very high, coal bed methane production will be a booming industry.

Calfrac is the industry leader in Canada in the shallow gas fracturing business, which includes new shallow wells, recompletions and coal bed methane, as well as a competitor in the new, deeper gas well fracturing business. Except for new gas well drilling, Calfrac has no exposure to drilling rig activity, which is the most volatile area of oilfield services.

Because of unused tax pools in Denison, Calfrac will not be taxable for the next five years, generating a source of cash for financing the expansion of its asset base. Despite the price rise of Calfrac shares since its new issue at $15.50, the stock trades at less than 15 times this year's earnings per share estimates and eight times earnings before interest, tax, depreciation and amortization.

* Peters & Co. Limited was the lead underwriter for the new issue by Dennison at $15.50 per share. Miles Lich, Oilfield Services Analyst with Peters & Co. issued a report on Calfrac on March 31, 2004, rating the stock Sector Outperform. The writer of this article has no personal investment in Calfrac shares.

Wilf Gobert is a managing Director for Peters & Co., a Calgary-based full-service investment dealer.

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