3 Ideas to Energize Your Portfolio ft. Josh Young and Damian Horner

26:46You know, I'm liking Journey. So that's an interesting one. And you've set the bar high for trade idea number two. So let's get into that. We can take questions at the end from anybody who wants to ping us questions about any of these. But to move on to number two, we're talking about Vital Energy. So tell us a little bit about Vital Energy. Why them and why now? So Vital is doing a roll-up of assets in West Texas. Sorry, Josh. What we're going to do is we're going to ping up a chart in a second just to get to get people orientated around Vital while you're talking. So talk us through. Yeah, sure, no problem.

27:26So Vital is doing a roll-up of assets in West Texas and Southeast New Mexico in the Permian Basin. And so their legacy assets, it's an activist situation where the management team that's currently in was brought in by the largest shareholder at the time in 2019. And the first thing the management team did is term out their debt in the beginning of 2020, which saved them during COVID. They had hedges on and the second thing they did is start buying assets away from their legacy position, which is sort of more natural gas and natural gas liquids oriented. Similar to Journey, lots of gas upside here that I feel like you don't have to pay for and that certainly isn't in anyone's numbers.

28:15And so they went ahead and bought land for a fraction of the current value for that land and have put up better results than people expected. But similar to a number of different activist type situations, afterwards, if you don't just sell the company, there's a lot of turnover in the shareholder base. And there's a lot of challenges in terms of proving that you're not the same people or the same company as the company was prior to that management and board change. And so, um, so it's the activist thing. I mean, a lot of people see that as a threat and as a problem, but you're seeing it here as potentially an opportunity because it demands some kind of revitalization of the core business.

29:00Well, it already happened. I mean, maybe there's argument for an activism here at this point, but this activism, I think it was by Sailing Stone. It was in 2018 and they got the board, changed over in 2019 and the management team changed over around then too. So I'm just explaining why this, it's sort of perceived as Laredo Petroleum, which was the prior name for the company and Laredo Petroleum's prior assets, which were non-core Permian assets that were more gassy and had less oil and much worse capital efficiency. And so there's this odd thing where when you look at the miscellaneous sell-side research report on Vital, they'll talk about the terrible capital efficiency.

29:42But when you look at their wells, the wells are fantastic. And so it's like, hey, how did this happen? And how do you end up with a company like this, with this sort of heavily discounted valuation, with these sorts of good assets and good well results and so on. And so I think you get it through that sort of activism and then through a roll-up where people just don't understand, hey, this is a company that is transitioning and has done great deals in aggregate over the last number of years and has put up some really impressive wells, as well as actually beating and raising. I think they've Beat and raised nine out of the last 10 quarters.

30:26So normally that gets you a premium valuation, but not yet. See, what I love about this show and what I love about what you're saying here, Josh, is that what a lot of people do is they look at the numbers, they look at the charts, they look at the top line narrative and they move on to the next one and they move on to the next one and they somehow expect that a great opportunity will reveal itself. And what you're showing with both of these ideas so far is you have to scratch the surface. You've got to go deeper. You've got to look at the context, how the journey has developed, how they've arrived at where they are as an organisation, whether it's journey or vital.

31:00How are they here? And are they being judged in the right way for the right reasons? And I think it's a really, the value of this show for me is that you're doing that work for us. So thank you very much because you're shortcutting months and months of study. So tell me where you expect it to go next and what's your time horizon for that, for VITAL? So just one last thing about the underwriting and the valuation, which I think ties into the... So there have been a number of different transactions in the Permian Basin where VITAL has acquired and developed assets. And almost all of those transactions have been at a large premium to where VITAL is trading.

31:44And so Vital has basically come in, they're calling it Moneyball, where they've come in and they've bought sort of tier two assets, but then done a good job with operations and gotten them close to tier one. And they've done it over and over again. And so they're still perceived as this sort of low quality producer, but their results are high quality and their financials are becoming high quality. There's some lag. So people look at the financials and say, oh, well, they spent this, but they don't give them credit for the next thing. And they don't give them credit for the capital spent last year for the production this year and then the capital this year for the production next year.

32:22There is some lag associated with this capital spend. And so I think we end up seeing this trade closer to its liquidation value, which is somewhere in the$100 to$200 a share range, depending on exactly who is buying it and which comparable transaction you want to reference. But the trajectory for those transactions is up and to the right. And so it's sort of this nice situation where they keep doing mostly accretive deals. They keep putting up great results. They keep finding more inventory on their existing lands. and again, just putting up really good well results repeatedly. And so eventually, I think they do get bought.

33:00And I think they get bought for a lot more than where they're trading. And one of the ways that works, it seems, and it seems sort of shady to me that this is how it works, is it's sort of, there's a Reuters or a Bloomberg or something article about how they might be for sale and then the stock goes up 30 % and then it gets bought for a 20 % premium because no one pays more than a 20 % premium for an oil company. and then magically you've gotten a 60 % premium to where it was before that Reuters article or whatever comes out. And so I think that's the most likely scenario. And then the second most likely is that it just, as they perform well, and as the market cap grows, becomes a bigger part of the indexes and you just end up with this sort of natural creep of the company and of their valuation towards the comparable companies.

33:50And maybe even to a premium, just because they've actually done a lot better and more consistently done better than a number of their peers that traded a much higher valuation. So I think there's room for this thing to go up a lot. And I think it's just a matter of time where I would have thought that four quarters in a row would have been enough to get this to a premium valuation, but then they did a few more transactions and people got worried about the share overhang from the transactions, even though they've turned out to be great deals. And so I think it's just a matter of time and they have signaled that they're slowing down on these deals.

34:23So if they follow through on that, you can end up seeing this stock just sort of slingshot. So I don't know, maybe it's three months, maybe three months, but I think it's set up to do really, really well. I like the money ball analogy. That's such a nice way of summing this up in a very easy to understand concept. But going back to whether they keep on with these deals, is that what would upend your trade if they just keep doing the deals and not reaping the rewards? What is it that would make you kind of have second thoughts on this? So there was one deal they did last year that was pretty big, and it was actually slightly financially diluted.

34:59And that was very hard because you don't want to see that, especially in a roll-up type strategy. And you start to ask a lot of questions about the thesis and the company and the team and the board. And so we dug in a lot. And I still don't like that deal. And I think it's okay to acknowledge that even if you do stuff, you're not going to like some of the things that you did in retrospect. So if it's other people doing stuff, you're guaranteed to not like some of the stuff they're doing. If you like everything, it's a cult or something. You got to take your rose-tinted lenses off. So we looked really closely, and there's actually a strategy that could work here, and I don't want them to do it, and I don't think they're going to do it.

35:38But there's a strategy that could work here where they just do dilutive deals, and they just keep doing it, and they get to a$10 billion market cap, and the stock goes crazy up at that point or near it as they go from one index to the next. And as they end up with just a giant amount more passive money flowing in, as well as just picking up a lot more sell-side coverage and sort of forcing people to pay more attention to their operations. So that particular downside case actually isn't so bad because purely on the size effect, there's room for more than a double. And actually, if they just did neutral deals, which they only did one, it was a big deal, they only did one deal that was dilutive, every other one has been pretty highly accretive.

36:19If they just did neutral deals, there's room for somewhere between a double and a triple. If they do accretive deals and they just do smaller ones, there's room for a 4X plus. And the trajectory of transaction values, it's just so amazing seeing Occidental Petroleum, for example, backed by Warren Buffett with essentially his permission on these deals. They went and bought Crown Rock for$12 billion. And Crown Rock is bigger and better than vital, but not by much. Vital is at a fraction of the value for that. Fascinating. And I guess that's going to come down to what is the internal culture of the organization and their long-term strategy, which is, is it about, people get hooked on deals and sometimes the deals get in the way of the core business.

37:02But I guess time will tell on that. Okay, I'm going to move you on to number three. Talk to us about your third trade idea. Sure. So this one, again, is pretty new for me to be talking about. It's a position that we've had on intermittently through different forms. We own warrants and equity-like securities on this. It's sort of a larger company for us. We're pretty focused on small to mid-cap producers, and this is a larger cap integrated, although from a U.S. perspective, it's sort of mid-cap-ish at that sort of, $30 billion. I'm so glad you said that because literally one of the questions has just come in saying, Joy is a microcap stock.

37:47Are there any larger companies that you like? So you've answered the question without even realizing. So thank you for saving me a lot of work there. Yeah. And again, I think the interesting thing about hearing about Synovus for me is that my strong preference is to buy things that are cheapest, that go up most, and I'm willing to go illiquid and I'm willing to have a long time horizon in exchange for high potential returns. So I'm not willing to sacrifice that. So I will own a stock like Synovus or similar, and we have at Bison in the past where there is a really attractive risk-adjusted return.

38:26And so Synovus, similar to these other companies, they have their base business, which I think you pay a fair price for or a cheap price for, and you get the rest essentially for free. In Journey's case, you get the PowerGen and the natural gas for free. In Vital's case, you get essentially their inventory and their liquidation value for free while just paying a discount on cash flow. For Synovus, you get a combination of their gas and liquids-rich gas assets in the deep basin, which are enormous and very valuable for free. and you get refining assets which are being transformed right now by a high-performing culture and a great management team.

39:08You get those for free, and those are sort of, I think, the sleeper where you end up with this stock. It's trading at a discount to comps. Sorry, Josh. Let's call it the chart there so we can see that playing out in graph form because I think it's interesting to see that while you're talking here about this kind of momentum they've got around them. Talk a bit more about that. Sure. So I think actually a more interesting chart than this one would be Synovus versus Suncor and Canadian Natural Resources, CNQ. I realize now, Josh, there is somebody panicking somewhere behind me trying to find that chart and seeing if they can get it up in time.

39:50If they can't, you've told us where it is, and sure, people can rewind and find it. But talk us through it, even if we can't find it, so we can understand what you're trying to say. And that's fine. We can go back to just the Synovus chart. I just wanted to frame it. I want to know about it. I've got a photo now. It looks good, right? But if you look at CNQ and Suncor, it's even better. You have these stocks at higher prices, especially CNQ. And the interesting thing is that normally, if you're an integrated producer, where you own your midstream or at least some of it and you own your refining, you get a premium, right?

40:26You look at how Exxon and Chevron trade. And the reason you get a premium is because sometimes there's higher margins for gasoline and diesel. Sometimes there's higher margins for crude oil production. It just makes you sort of more resilient. So that's why that was the brilliance of Rockefeller was this integrated, it wasn't the monopolistic aspects, those helped. But turning Standard Oil into an integrated producer was really the brilliance and where a lot of that wealth creation came from for Standard Oil. So here you have an integrated that trades at actually a pretty big discount to Canadian Natural Resources, which is a pure play upstream producer.

41:07And when you look at the actual assets, I would argue that Synovus has at least equivalent, if not superior upstream assets. They have some of the very best oil sands. And then they still have some really great deep basin gas-oriented assets, and they get very little credit for them, and they traded a large discount to these comps. And so if we're looking at a chart, I would look at this, you know, Synovus particularly versus CNQ to see the upside, where as it gets less aided, as it starts, and the big thing here is versus CNQ, CNQ started to, and Suncor started to buy back a lot more stock in the last 18 months or so.

41:49And that, I think, sort of pushed their shares up. So Novus has been more focused on paying off debt and upgrading their refining facilities. So as those upgrades play out and as refining margins stay higher than people expect or higher than they expected, right? We're at close to$30 321 crack spread right now versus if you read the news, you'd think we were at 20 based on the grim headlines. Yes. So why do they feel like they're under the radar? Why aren't other people seeing this? So it's not that people aren't seeing it. It's that not enough people are seeing it. And so the Canadian funds have been sort of in and out of this thing.

42:30They tend to have super high turnover ratios, which is sort of odd. They'll get on TV and then, oh, this thing's great, and then they're out the next month or whatever. So there's a lot of that. So they know about it. But that sort of burns your audience. And that's not really my style. So I think there's been a lot of those folks in and out of the thing. And I think there's been a lot of disappointment because people wanted Synovus to be buying back more stock sooner. And I don't think people understand what they've done with their refining business, this tremendous transformation where they spent billions of dollars improving their refining business.

43:07rather than buying back shares. And obviously in the short term, there's a sugar rush from share buybacks because it supports the stock from the downside and it pushes it up. But NAV per share growth is a much more certain path towards longer term outperformance. And so if you can give up the sugar rush and focus on the longer term performance, this is, again, it's like a journey where, hey, yeah, they dilute it a little. Let's focus on sugar rushes and long-term performances. So where's your time horizon on this? Pull that in a little bit so we can get a sense of that in more detail. I think this works this year.

43:46I know it sounds sort of, I am pretty long-term oriented, but this transformation has been very painful and mostly I've not owned this as I followed it. We follow very closely the large cap producers and integrators as a part of our research process for our smaller companies. So we underwrite every one of these companies And normally, like you're saying, they're very well followed and very well understood. And again, I think it's sort of this short termism and sort of momentum effect where you've seen sort of this rushing into some of these other companies, which are excellent companies with great assets.

44:21Just this one, I think, might even be better and also cheaper. And people just don't understand. Again, I think the real key here is the refining, where as these refining assets are online this summer, and as we have healthy refining margins right now, and as sort of, you know, you have summer driving demand pickup, and as diesel demand is less disappointing than people think, you know, we're seeing somewhat of a recovery in Europe on the industrial side. We should see a little more health. And then there's this extra free benefit, which is the Canadian dollar is terrible. And Canada, if you think the US is doing a bad job from a budget perspective, just look across the border.

45:03It's astonishingly bad. And so that low Canadian dollar is really beneficial because the margins, both for the upstream production and on refining, are a lot better because these are essentially dollar-denominated products with Canadian dollar denominated costs. So that's the other, I think. So this could, I think this stock could actually double in the next year, which is again, wild for a$30 billion market cap. I love it. I love it. It's so refreshing to have somebody who actually says what they think and is prepared to talk about it openly. It's such a struggle when people are coy and kind of hiding what they really think.

45:42But I'm going to ask you that horrible question, which is, okay, what's going to blow this? What's going to upend the whole thing and make you put the brakes on? So more refinery issues would I think really hurt them. And then underperformance on the upstream side could hurt them as well. And again, they have this one asset that I'm really not worried about at Christina Lake, which is actually, I'll pick on this just for a second. They have this asset where there's another independent, I won't name, that's a$7 billion company. And that company trades at like a 50 % or 40 % premium on valuation.

46:21Again, it's just an upstream heavy oil producer. And it trades at a premium to Synovus, which has essentially the adjacent asset, which is sort of the bulk of their upstream production, but also has refining and gathering and processing and so on. And so, you know, if you look at it from a business perspective, if you're a private businessman, you would always want the production along with the processing. And in this case, you're essentially not just getting it for free. You're actually getting paid to take it and then getting a similar upstream. And again, not all the assets on the upstream side are the same as this one independent producer with this adjacent asset.

46:55But that asset's premium. On some of these other assets, I think there are some production risks and there are some operational risks. And I think if their overall upstream portfolio underperforms materially, or if they're refining assets, if there are a number of additional refinery fires, or other sort of safety issues, which I believe they've mostly rectified, but there's always that risk. I think if you see a number of those in this sort of peak driving season that's coming up, I think that could really, I don't think it kills the thesis, but I think it pushes it off. And, you know, I think you could actually see this trade at a discount for a lot longer if you don't see the turnaround that they're planning.

47:36And I think that the market is just starting to think about pricing it. Yeah. We're getting a ton of questions. And again, to the audience, if anyone has questions, just fire them in and we'll get them over to you. So before we kind of sum up across the three, I've just got a couple of broad questions that have come in, Josh, that I'd just like to ask you. We've talked about a couple of Canadian companies here. What's your opinion on the Canadian oil and gas sector as a whole? How do you see that at the moment and over the next short while? So I think, unfortunately, we're in a world where there's geopolitical risk across jurisdictions.

48:14and places like Canada and the U.S. that historically had great private property rights and ability to bring product to market. And you sort of could keep what you could get minus predictable taxes. I think, unfortunately, we've moved away from that world to some extent. So I think you have to price in political risk. That being said, it's much more comfortable to talk about Synovus now than a month ago when the ostensibly liberal government in Canada was floating a potential windfall profits tax for Canadian oil and gas producers. So that's been tabled, at least for now, which is really helpful.

48:52And then there's some progress towards a heavy oil pipeline, the TMX actually turning on, which would be great. And then there's progress towards a natural gas pipeline turning on towards an LNG export facility, which hopefully will be on in the next couple of years. So as a jurisdiction, Canada is improving. Josh, that's one of the other questions about exporting. Is the future in exporting its resources? Where do you sit on that debate? Yeah, I mean, I think there will be more exports from Canada. And I think one thing that's sort of wild to me is that countries like Canada or even the U.S. are so focused on exporting these resources instead of using them and transforming them into higher value products.

49:40So the U.S. is in this rush to build LNG export facilities instead of permitting factories and pet chem facilities and so on and building stuff here, similar in Canada. And that's actually partly why I like the PowerGen initiative at Journey so much and why I liked the Bitcoin mining initiative we did at IronBridge. I mean, again, it's less about the specifics of what you use it for and more about do you want to be the low value add commodity producer country or do you want to be the higher value add commodity producer plus transformer into end product country? And I think there's sort of this unfortunate give both in Canada and the US as we sort of move towards more regulated, more sort of centrally planned economies away from that value add.

50:31So I think it's unfortunate, but it's real. Okay. Some other questions are coming in, but one of the ones is, okay, there's three trade ideas here. You've laid out a great thesis for each of them. They're clearly very well researched. and you've been in the space a long time and you're putting your money where your mouth is. If I was to force you to just pick one, which is your favorite? And I know that's cruel and horrible and unfair and totally unreasonable. And that's exactly why I'm asking. So I think Vital is probably my favorite here. I would have thought Journey, let's say a few weeks ago, but I think Vital just because there's been this lull in Permian transactions.

51:16And I think we're going to see a next wave. There's no indication that the buyers of these assets are done buying. And the highest value transaction was really recent. It was Exxon buying Pioneer, which frankly, Pioneer, there might be some oil and gas folks that get mad at me for saying this. Their assets are not premium. They're great. They're big, but they're not, and they are better probably than Vitals assets, but they're only incrementally better. They're not radically better. And again, that's not based on emotions or whatever. It's based on, you know, underwriting individual well results and underwriting well costs versus well productivity, factoring in especially the cost for that inventory and the ability to replace inventory and to find new inventory.

52:05And then the move by Pioneer towards sort of developing secondary zones as they run out of primary zones. So that tells me if that's worth seven times cash flow to Exxon and worth Exxon incurring a lot of dilution in order to fund it, maybe Vital shouldn't trade at two or two and a half times. Interesting. One of the other questions we've got here is there are some Canadian energy companies that pay out good dividends. Do you have a favorite from that perspective? So historically, I've gotten burned on buying high dividend payers because the tendency for high dividend payers is to become not high dividend payers and not in the way that you think.

52:53So I prefer companies that aren't yet paying dividends, that may pay high dividends in the future and allow a re-rate through that, rather than trying to buy what people pretend to be a steady stream of cash flow that in reality is anything but. Very nice. Yeah, I think I would tend to agree on that. Now, let's just go back to Vital. Another question has come in from Jason Jochum. So when it comes to Vital, and obviously they've got to focus, I think they're on the edges of, I think you said the Permian Basin, so the edges of Texas and New Mexico. With that kind of acreage and that location, do you, talk to me about the gas differentials in that area and any concerns that you might have around that or not?

53:40So Vital has been very hedged on their gas and gas differentials for a number of years. And they were punished for it when they didn't make as much money in 2022 for those hedges. And they're getting rewarded for it, not in the stock market, but from a cash flow perspective, currently from those hedges. And I think that over time, there's this, people talk about this urge for upstream companies to drill wells. and sort of no matter what they go, they think that they're essentially holding a hammer and drilling wells of nails, they're just like bang the nails in. So pipeline companies are similar.

54:18And so with differentials where they are, I think we're about to see a wave of pipeline expansions and new builds in Texas. And if you're building a pipeline in Texas from one spot in Texas to another spot in Texas, it's actually not that hard to get the approvals, relatively speaking, and the time to build is actually quite low. You look at the gas link pipe in Canada from Alberta to the West Coast, and that's taken what, like a decade, similar to the TMX oil pipeline up there. You could see a 24 month or less time from announcement to completion and online. And actually, I think with the right motivation, given where we've seen differentials, we could actually see pipeline expansions, especially come on even faster than that from West Texas down to the Gulf Coast or to Mexico or east into sort of the bigger sort of hype network in the US.

55:16So I think that there's upside for Vital from improvements in gas differentials, but in the short term, they're hedged. And I'm not sure people understand that they're as hedged as they are, but it's how they're going to be making as much money this year as they're making. Okay. Josh, we're into the home straight now. I just want to kind of, as we come to conclude, I'd just like to get a very quick overview on where you see energy as a whole and oil and gas in particular over the next, you know, over the next while, because there's a lot of pressure on the sector politically. Just give me your overview on that before we wrap up.

55:55Yeah, I think that pressure is translating to allocators, continuing to withhold money from the space or even withdraw money. If you look at net flows, they've actually been negative for a number of years in oil and gas, both on the public equity side and then even on the private side. There's a lot more money going out of the space than going into the space in aggregate. And that's funded through oil companies using cash flow to buy private equity backed assets. And then that cash going back to the pensions, endowments, whatever, and them just malinvesting it into tech nonsense or whatever, or private loans, which I think are really hot right now.

56:34So I think that's really promising because historically, when you've had that sort of underinvestment and those sorts of outflows for periods of time, for any cyclical, you end up eventually getting to periods where you have inflows. And so you also, from a commodity perspective, if you're in a cyclical commodity and you have those sorts of outflows for years, and then you also, I mean, we track the expenditure on exploration and delineation as well as development, that's been way down. And you even have an issue with oil field services where there was so much underinvestment in oil field services, you actually need a whole capital cycle just for the services, just to be able to then go spend the money to catch up on all the cyclical underspend for oil and gas.

57:21So particularly on the oil side, on the gas side, there's been less capital, I guess there's been less capital discipline and less good governance, I would argue, on the especially US and Canadian gas producers. And so I think that threatens the upside beyond sort of what's already priced into the forward curve. So I think there's great promise for oil from a price perspective, and there's great promise for natural gas from a volume perspective, but that promise for volume is probably negative for price relative to what I see some natural gas bulls hoping are expecting. Josh, thank you so much.

58:00I have to say, I normally judge this show by what I call nuggets. How many little nuggets do I walk away with at the end of it or having watched it and think, oh, you know, I'm going to look into that more. I'm going to talk to somebody about that. I'm going to explore it more. And I feel like I've got a long list of things that I want to chase up and follow afterwards. So I could not ask you for more. Thank you so much for your hard work, for your research that you've been willing to share with us and for your views and ideas, which I'm sure many people will find interesting and inspirational.

58:30So thank you. We look forward to seeing you on Real Vision again in the future. And we'll obviously be tracking how these perform and I'm sure everyone will be joining us in that. So thank you for joining us and we'll see you again sometime soon. Great. Thank you very much, Damian. Thank you all for listening in. And again, I own these positions and none of this is investment advice. Just, you know, it's great to have these sorts of conversations. Fabulous. Thank you. We hope you enjoyed this episode. At Real Vision, we arm you with the expert knowledge, time-efficient tools, and a powerful network to help you succeed on your financial journey.

59:08Get a taste of financial freedom with our free offer at realvision.com forward slash free.

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