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Gas Find’s Big Winner Is Its Customer
12/09/2010 2:44 pm EST
And the biggest winner from Argentina’s huge natural gas from shale discovery in Patagonia?
Well, YPF Sociedad Anonima (NYSE: YPF) is certainly a winner. The find of 4.5 trillion cubic feet of gas is roughly double the Argentine company’s previous proved natural gas reserves of 2.7 trillion cubic feet. YPF already produces some natural gas from four wells at the Loma La Lata field with a daily output of 100,000 cubic meters.
Repsol YPF (NYSE: REP), the Spanish oil and gas company that controls YPF, is certainly a winner, too. Media reports, unconfirmed by either company, say the find could hold as much as 250 trillion cubic feet of gas. By contrast, Argentina’s proved natural gas reserves before the find totaled 12 to 13 trillion cubic feet. (“Proved” is a much more meaningful measure than “reported in the newspaper,” I’d note.) Repsol is planning to sell 15% of YPF in a public offering.
But the biggest winner might actually be Vale (NYSE: VALE). The Brazilian iron ore giant is moving to become the biggest fertilizer producer in Brazil, and its new $4.3 billion Rio Colorado project sits in the neighboring Argentine province of Mendoza. To mine potash there, Vale needs natural gas—lots of it—and until this find, it looked like it was going to have to battle a tight Argentine natural gas market to get the supplies it needed or import it from somewhere else. The alternative sources were all either politically iffy or likely to be very expensive. The Rio Colorado project is scheduled to begin production in the second half of 2013 with initial production capacity of 2.4 million tons and the potential for 4.4 million tons.
It’s clear now how Vale will find the gas it needs. (And in retrospect, I doubt this find comes as a surprise to Vale. We are talking about a mining company that’s pretty good at assessing future resource potential.) Vale will invest $150 million along with YPF to begin developing the find with half of natural gas production going to Vale.This is the second big deal that Vale has signed to secure infrastructure for the Rio Colorado mine. In August, Vale took over the railroad concession operated by Ferrosur Roca that connects Neuquen province, near the mine, with the province of Buenos Aires.
Vale has targeted the fertilizer sector as one of its big growth opportunities. In January, the company bought Bunge’s (NYSE: BG) fertilizer assets in Brazil, including a 42% stake in Fertilizantes Fosfatados, the largest supplier of fertilizer in Brazil. At the end of September, Vale bought Mosaic’s (NYSE: MOS) remaining stake in the business, now renamed Vale Fertilizantes. Vale now owns almost 80% of the fertilizer unit.
Vale isn’t expensive right now, trading at just 11 times projected 2010 earnings and 7.9 times projected 2011 earnings per share. The Wall Street consensus projects 39% earnings growth in 2011.
As always, the dangers with Vale are the commodity cycle and debt. On the former, I think Vale doesn’t face substantial new capacity coming into production—which would force prices for iron ore and fertilizer lower—until 2012 or 2013. On the latter, the company has vigorously worked to expand its investor base. The most recent move was a listing in Hong Kong. That doesn’t lessen the company’s leverage, and Vale does have a very aggressive program of capital spending for 2010 and 2011. But short of another global financial crisis, I think the debt load is manageable.
You may be able to get Vale at a discount to current prices if we get another big growth scare out of China. The stock did trade at $25 or so back in July. But I think that’s what it would take to give you a significant buying dip. The stock is a member of my Jubak Picks 50 long-term portfolio.
Full disclosure: I don’t own shares of any of the companies mentioned in this post in my personal portfolio. The mutual fund I manage, Jubak Global Equity Fund (JUBAX), may or may not now own positions in any stock mentioned in this post. The fund did own shares of Vale as of the end of the September quarter. For a full list of the stocks in the fund as of the end of the most recent quarter, see the fund’s portfolio here.
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