A Winner in the Coming Oil Squeeze

07/19/2007 12:00 am EST

Focus:

Jim Jubak

Founder and Editor, JubakPicks.com

James Jubak, senior markets editor for MSN Money, finds an exploration and production company that’s likely to benefit if oil markets remain tight.

You can debate whether the world is running out of oil all you want. It is certain, however, that the world has run out of cheap oil.

In its latest medium-term oil market report, the International Energy Agency said the market for oil will get even tighter over the next five years. (And in case you're looking for a way out, natural-gas markets may be even tighter.)

Almost any oil stock will profit from that scenario, especially if the company owns oil still in the ground. In an era of rising prices for oil, such companies are sitting on an appreciating asset.

But the oil company that is best positioned for the scenario painted by the International Energy Agency is Apache Energy (NYSE: APA). Apache has become a specialist in producing more barrels—often lots more barrels—out of older, "depleted" oil fields that other oil companies have given up on.

Apache is no slouch when it comes to finding new oil. Projects in Egypt, Australia, and Canada are projected to add 108,000 barrels of oil a day by 2011. And potential resources are set to climb, according to management, to 8.8 billion barrels from 7.1 billion barrels at the end of 2005.

But it's Apache's ability to get more oil out of old fields that makes this an oil stock that I want to own during the supply crunch of the next five years (or longer). For example, Apache bought the North Sea's Forties Field from BP PLC (NYSE: BP) in 2003 for $688 million. Production at the field had declined from a peak of 500,000 to less than 50,000 barrels a day.

Apache invested $911 million in new cranes, pumps, and other equipment and cut operating costs in half. By the end of 2005, the company had increased production to 81,000 barrels a day and raised cash margins per barrel to $24 from $6. The two parts of the company's strategy fit together well: buying older fields and increasing production there provides a steady cash flow that Apache can then use to explore for new oil.

The stock is a relative bargain in the oil industry, trading at a forward price-to-earnings ratio of 11.5x versus 13.1x for Devon Energy (NYSE: DVN) or 12.9x for ExxonMobil (NYSE: XOM). I'm adding these shares to Jubak's Picks with a target price of $97 a share by December. (It closed above $87 Wednesday—Editor.)

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