Fueled by takeover speculation and activist pressures, The Houston Exploration Co. ( THX) has been trading up for the past month. But the rally may soon run out of steam if no deal is consummated, according to some observers.

Houston Exploration shares began to rise in mid-June after $5 billion hedge fund activist Jana Partners offered to buy the company for $62 a share, an extremely unusual move for a hedge fund. Houston Exploration shares have increased by more than 13.4% since the Jana bid, including a 1% gain in a difficult tape Friday (and a 0.2% rise to $61.95 on Monday).

One reason for Friday's rally: Wexford Capital, a $5 billion hedge fund with a 1.5% stake in the company, urged management to solicit bids other than Jana's offer, which management previously rejected. The letter, sent last Wednesday, marked the commitment by yet another large shareholder to put pressure on the company.

Representatives of Jana and Wexford declined to comment.

Houston Exploration is trading at a discount to its peers and could be seen as a perfect target. Even RBC Capital Markets analyst Scott Hanold, who recently downgraded the stock to underperform, sees it as relatively cheap. His price target of $65 implies an enterprise value of 5 times estimated 2006 EBITDA, lower than the peer group, which is trading at close to 6.5 times 2006 EBITDA.

Yet some believe that the rally has reached its climax, because a takeover is unlikely to take place despite the activists' efforts.

"The stock is up in response to the Jana offer, and we're saying: 'Take your profit,'" says Ivan Feinseth, director of research at Matrix Investment Research, who downgraded the stock to sell last week. "The stock is fully valued."

With the stock reaching hovering around the $62 level, the market seems to think the Jana bid remains in play, or that a higher one is possible. But there needs to be a buyer, and so far there have not been any.

"Let Jana buy the company. If the company is thinking it can get more, where are the buyers?" says Feinseth.

More and more, the perception is that the stock has reached its cap on the basis of pure takeover speculation. "We don't believe a suitor is coming," says Hanold. And if that's true, there is much more downside to the stock than upside, he adds.

The risk is even greater considering that management has its own agenda.

"I don't think management wants to sell the company," says Hanold. "They want to run the company and make more acquisitions."

Even though the board recently retained Lehman Brothers to explore strategic alternatives, such alternatives are likely to involve measures other than a sale of the company, such as an increase of the share repurchase program.

Asked for comment for this story, a Houston Exploration spokesperson wrote the following:

We at Houston Exploration are, and have always been, committed to taking the appropriate steps to enhance shareholder value. The successful sale of our offshore assets and our share repurchase program are good examples of that. With the Board's decision to explore a broad range of strategic alternatives, we are continuing that commitment and will continue to do what we believe is in the best interest of our shareholders.

The company recently sold its offshore assets and is pursuing a restructuring plan focused on developing the onshore business, where it has a track record of growth.

But the company and Jana have been in conflict over how to best use the $810 million proceeds from the asset sale. While Jana pushed for share buybacks, the company has opted for paying down debt and engaging in more acquisitions.

Bulls believe Houston will inevitably find a suitor. After all, there has been a spectacular pace of M&A activity in the oil and gas market lately. Just last month, Anadarko Petroleum ( APC) announced that it would buy both Kerr-McGee ( KMG) and Western Gas Resources ( WGR) for $23 billion.

Other deals in the second quarter include the acquisition of Chief Oil and Gas by Devon Energy Corp. ( DVN) and Petrohawk Energy ( HAWK) buying KCS Energy ( KCS).

Finally, Jana's commitment should be encouraging for activist piggybackers and the like. The hedge fund has been adding shares since its first 13D filing on April 17, growing its ownership from a 9% to a 12.8% stake in less than three months.

"Jana has certainly the track record of going after things pretty hard," says John Thieroff, an oil and gas analyst at Standard & Poor's. Such track record includes forcing Kerr-McGee and Massey Energy ( MEE) to buy back their own shares. And so far, some of Jana's demands on Houston Exploration's management have been met.

Jana, for instance, asked for a $650 million share repurchase program and has obtained $200 million worth of buybacks, or 30% of what it was asking for.

More recently, it asked management to release compensation records, criticizing chairman William Hargett for getting a compensation increase of more than 544% between 2003 and 2005, a period in which Jana said that the company's shares underperformed. In response, the company agreed to turn over some of the documents demanded by the activist.

Even if the company does not sell itself, some believe that Jana's bid is a positive for the shareholders.

"I am bullish on the stock, and I see significant upside whether or not the company ends up being taken over," says Jeff Allen, analyst at Silvercrest Asset Management, an investment firm that manages $7 billion in separate accounts for high-net-worth individuals. The company owns 230,000 shares.

"Houston Exploration's management operates the company more aggressively since the bid and will be more motivated to meet and exceed expectations because they've been scared that they might lose their jobs," he says. Since the Jana bid, management has been reaching out to its top holders, meeting them and showing them a "116-page slide presentation," he says.

Among some of the measures management is pushing in order to improve operations, developing the Rockies area is perhaps the most significant, Allen says, as the region is rich in oil and gas reserves that have been underdeveloped.

But the bears argue that without a sale, the stock will plunge and that the company's fundamentals are too disappointing to attract a buyer. "Performance is horrible," says Feinseth, noting the decline of sales growth from 28.8% in March 2005 to negative 4.6% in March 2006, despite very strong demand for oil and gas.

Hanold says that Houston Exploration's assets would need to be much more concentrated to make it an appealing target. The company has operations in south Texas, north Texas, the mid-Continent and the Rockies. "Do all these parts fit well together?" he wonders.

That's a crucial question, considering almost all of the stock growth for the year took place after Jana's bid last month. It remains to be seen if the positives of the sector will be enough to attract a buyer for a company whose results have not been impressive so far.

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