Thursday, September 18, 2008

USEG Update

Shares of U.S. Energy Corp (Nasdaq: USEG) have dropped by about a third this month, in the wake of the commodity correction and the broader market chaos. Today USEG announced positive initial results from its first of three exploratory wells it is participating in with PetroQuest Energy (NYSE: PQ).

On Seeking Alpha this week ("Cash is King?"), David Zurbuchen noted,

Due to the simultaneous reduction in market liquidity and commodity prices, metal exploration and mining companies that need to raise funds to finance their activities are facing the prospect of substantial share dilution or the possibility of losing their property interests if they cannot meet contractual spending commitments. We believe there has to be a very compelling reason to own cash-strapped companies in this market.

Conversely, companies that are not in need of financing have an important margin of safety in the current environment.


One example of a company that deserves closer examination is U.S. Energy Corp. (USEG). The company has a market capitalization of about $54 million while holding $70 million in cash, short-term investments, and marketable securities. With debt of $14 million, this means the company itself is being valued by the market at negative $20 million despite the fact that it holds an interest in several prospective projects and other potential royalty streams. Specifically, the market is giving less than zero value for

1. the company’s Lucky Jack molybdenum project where Thompson Creek Metals Company Inc. (TC) will have the ability to earn up to a 75% interest by spending up to $400 million,

2. various oil and gas interests,

3. a 4% Net Profits Royalty on the Green Mountain uranium property in Wyoming owned and operated by Rio Tinto (RTP),

4. up to $40 million in payments from Uranium One starting in 2010, and

5. a real-estate project which could conservatively net $15 million to the company during 2008.

Short of being a very profitable producer (which the market doesn’t seem to like either), what else can a mining equity offer?

Zurbuchen is probably understating the cash USEG has on hand now (e.g., he doesn't take into account the funds from the recent sale of most of its stake in Sutter Gold Mining), but what he writes is otherwise consistent with what I've written in previous posts on the company.

Update: Commenter Albert notes that Zurbuchen's arithmetic was a little off above; using Zurbuchen's data, the enterprise value should have been negative $2 million and not negative $20 million.


J K said...

Seems like a solid idea to me. Just a matter of being patient and hoping management is ethical. If I weren't so busy loading up on all the bargains I already own I'd get in this with you also. There's so much I want to buy/add to. I did follow you into AYSI during the recent correction here.
Also added to TTM and TCM. Looking to double down on zinc soon also, via adding to LMC and ZINC.

DaveinHackensack said...

Welcome to Alloy Steel!

Albert said...

Maybe I'm too tired, but doesn't he mean the company is valued at negative TWO million, and not twenty?

DaveinHackensack said...


Using his numbers, you'd be right. He should have written negative $2 million.

Rudy G. said...

"they can earn up to a 75% interest if they spend $400 million..."

Hard to spend $400 MM you don't have in a credit market environment that is frozen to even the best credits.

This company still is still losing money and is hardly an A+ credit.

DaveinHackensack said...

Rudy G.,

The "they" refers to Thompson Creek Metals Company (NYSE: TC) which has signed an option to acquire up to 75% of the Lucky Jack project, not USEG, which started out with a 100% interest in the project. The point of the deal, from USEG's perspective, is to have a larger, operating partner foot essentially the whole bill going forward, in exchange for three quarters of any proceeds.

DaveinHackensack said...

Up 16.75% today on more than double average volume.

Rudy G. said...

TCUSA has the right to withdraw from the project and associated payment commitments at any time for any reason. TCUSA will not assume any existing liabilities on or related to the property until it exercises its right to acquire an ownership interest in the property.


With TC having the right to withdraw at any time (and without penalty) it seems that USEG has given away all power and any flexiblilty they had on this development for a nominal current payment.

While this may work out ok for them it smells like the leasing of the NJ or PA turnpikes for money now at the expense of giving up future control over one of your key assets.

DaveinHackensack said...


I don't think that's a fair characterization of the deal with TC. It looks like an equitable deal for both sides to me. The last operating partner USEG had on the Lucky Jack project sunk millions of dollars in development costs into the project only to walk away when it decided that the political hurdles were too high. It remains to be seen whether USEG can surmount the regulatory/political hurdles to developing the mine, and it wouldn't make sense for TC to commit to buying the full 75% stake and footing the full corresponding development costs without knowing how likely it is for the project to go forward.

My sense is this: if the Lucky Jack project makes it past the regulator/political hurdles, and molybdenum prices remain at feasible levels, TC will develop it; if not, no one will.

Even if nothing comes of the Lucky Jack project, I think USEG has some significant appreciation potential with its other irons in the fire; if the Lucky Jack project does go ahead, then the upside of course would be a lot higher over the next several years.