Fans Gush Over Abraxas - TheStreet

Investors may wish to hunt someplace new for the next big energy find.

Two relatively obscure companies --

GMX Resources

( GMXR) and

Abraxas

(ABP)

-- already look like gushers. And a third,

Transmeridian Exploration

(TMXN)

, could be set to pop next.

Pathfinder Capital Advisors first

pointed to GMX Resources as an undiscovered treasure in an article published by

TheStreet.com

more than four months ago. The stock, while down 2.7% to $11.20 on Tuesday, has surged more than 50% since that time. Still, it remains one of three small-cap exploration-and-production stocks currently favored by the investing firm.

"Even with this run-up, GMXR is still trading at little more than half the average valuation (based on gas prices) for the small-cap oil and gas stocks," said Pathfinder principal Harry Chernoff. "As production and reserves increase, this valuation discount will decline."

Chernoff still likes Abraxas as well. He accurately predicted last month that the stock would leap after Abraxas sold its Canadian production company to pay down debt. After a nice jump on Monday -- when the transaction closed at the high end of expectations -- Abraxas, like GMX, was up more than 25% in a matter of weeks.

The stock slid 5% to $2.65 on Tuesday. But Chernoff sees another rally coming.

"ABP is now trading at the equivalent of about $30 oil and $5 gas," he said, "meaning that continued strong commodity pricing and aggressive drilling will quickly show up in much improved quarterly results and low-cost reserve additions." Oil is currently fetching around $50 a barrel, and the two-year gas futures contract is worth more than $7 on the Nymex.

Still, Chernoff feels that Transmeridian has the most immediate upside left.

Transmeridian has long touted its rights to a major oil field in Kazakhstan. But the company now has the financial flexibility to make that field pay off. And it could attract a lot of new attention along the way.

"TMXN is likely to move from the OTC bulletin board to the

American Stock Exchange very shortly," Chernoff explained. "This move will put TMXN and its huge exploration and production potential on the radar screens of oil and gas investors around the world."

The stock slid 1.8% to $1.68 on Tuesday. Looking ahead, however, Chernoff says the shares "could double or triple" on the basis of the value of the company's reserves.

After extensive research, both Chernoff and fellow Pathfinder principal Terry Friddle took positions in all three energy stocks mentioned in this story.

Hidden Treasure

"We've searched for some fairly unknown names ... that have not yet merited any kind of coverage," Friddle said. "Indeed,

we sifted through dozens of small-cap E&Ps to get to these."

Of the three, only GMX has attracted any analyst attention at all. Hibernia Southcoast Capital analyst David Heikkinen initiated coverage on the stock last September with a buy rating and has since seen the shares outperform his own expectations.

Friddle notes that GMX became his firm's favorite small-cap energy investment months ago. And he offers a slew of reasons.

He says the company's reserves are growing rapidly under its East Texas joint venture with

Penn Virginia

(PVA)

. At the same time, he says, the company enjoys much lower finding and development expenses than most of its peers. In addition, he says, the company has solid growth opportunities.

Meanwhile, Friddle says, GMX continues to put its biggest challenges behind it.

"The one criticism about GMXR, its high

general and administrative costs, is an artifact of its very limited drilling and production activity up till this past year," Friddle said. "Now that GMXR has a solid financial base, a solid joint venture partner and solid production increases, G&A costs

per gas unit are falling fast and will continue to fall."

Thus, he calls GMX a good investment and an "extremely attractive" takeover candidate.

Chernoff clearly agrees. He notes that GMX recently announced plans to seek a second, and possibly a third, drilling rig for its joint-venture operations. Moreover, he says that GMX is even willing to borrow money -- allowing it to more than double its capital expenditures -- if it can obtain additional rigs to dramatically increase its drilling efforts.

GMX CFO Ken Kenworthy Sr. told

TheStreet.com

on Tuesday that the company is in the process of amending an agreement with its partner that could soon pave the way for new activity. Under the deal, he said, Penn Virginia will seek a second rig that GMX can use half-time on property it fully owns. Up to now, the two companies have been working together on projects in which GMX has a minority stake instead.

"In 2005, we're planning to drill on our own" property, Kenworthy said. "That will make a big change in the company."

Thus, Chernoff foresees the potential for another spike in the stock. For now, however, he admits that the stock may no longer be the "steal" it was a few weeks ago. After the recent run, he says, the shares are more vulnerable to a drop in commodity prices like the one that occurred on Tuesday.

Even so, Chernoff says, GMX "doesn't need $6.50 gas

around the current price to do extremely well." Kenworthy offers confirmation.

"We can be profitable

with gas at $4," he said. "But we'll obviously be more profitable at $5 and $6."

Kenworthy, for one, remains bullish on natural gas prices. He points to a decline in production and a rise in demand as the reason. Looking forward, he sees a "day of reckoning" coming.

In the meantime, he's willing to celebrate the company's progress so far.

"We hadn't drilled for two years," he said. "It's a complete turnaround."

Popular Story

Friddle sees Abraxas as the next big turnaround story.

To be sure, Abraxas has already come a long way. Nearly a decade ago, the company borrowed more than $200 million to fund an ill-timed acquisition spree just before energy prices collapsed. It has struggled with an onerous debt load ever since.

But the company has finally sold enough assets -- and paid off enough debt -- to free up cash for growth.

"We have reduced our debt load by $175 million, nearly 60%, over the last two years and now feel comfortable with our balance sheet and our ability to again grow our asset base," CEO Bob Watson said Monday after the company's Canadian assets sold for $57 million.

Friddle smelled opportunity even before that transaction took place.

"This sale will significantly de-leverage the balance sheet and allow ABP to increase its capital expenditures to a level equal to the previous three years' combined," he said. "This de-leveraging/exploitation plan is the same approach used by several other successful E&P turnarounds in recent years."

Friddle named

Mission Resources

( MSSN) as a specific example. Mission's stock, down 2 cents to $6.80 on Tuesday, has rocketed from 30 cents to its current level in just two short years.

If commodity prices remain strong, Friddle and his partner believe, Abraxas could enjoy an extended run of its own.

Launching Pad

So could Transmeridian. Unlike GMX and Abraxas, in fact, Transmeridian is still waiting to take off.

"For each of these three companies, our view ... was that there was a big short-term positive surprise and a long-term story," Chernoff said. But "TMXN is still in its own little undiscovered universe."

Looking ahead, however, Chernoff and Friddle expect to hit paydirt on this third company as well. Certainly, Transmeridian has been clearing a path for future success.

In November, Friddle notes, Transmeridian raised $25 million in a "very favorably priced" equity placement that eased the company's cash-flow problems. Then, just last month, Transmeridian negotiated a delay in its debt repayments. As a result, it foresees new opportunities.

"With six months relief from our debt service," CEO Lorrie Olivier said, "the additional capital provided by Transmeridian can be used exclusively for field development."

The new financial arrangements come at a most opportune time. In recent months, Transmeridian has busily negotiated exploration contracts with the government of Kazakhstan and arranged for access to a regional pipeline beginning later this year. Thus, the company has plenty to spend its money on.

Because of the company's recent achievements, Friddle believes that Transmeridian can now increase its production per well "by a factor of five." He also believes the company can start selling its oil closer to worldwide prices because its new pipeline access will cause transportation costs to plummet. In addition, he sees great opportunities for the company to dramatically increase its reserves going forward.

"Right now, TMXN is priced as if the reserves aren't likely to be increased and the near-world pricing from pipeline transportation isn't likely to be achieved," Friddle said. But "TMXN is developing a very attractive major oil field, and now that the financial, operational and contractual issues are resolved or in the process of being resolved, it's simply a matter of proving up the reserves and producing."

Chernoff agrees. And he points to the company's expected listing on the American Stock Exchange as an added bonus.

"TMXN still has its short-term surprise to come," Chernoff said. And longer term, "TMXN has enormous potential."