Gina Rinehart puts oil and gas back in the investment frame

Follow the money is always good advice, as is invest like the rich, so when you combine money and an unfashionable investment by an ultra-rich person such as iron ore billionaire Gina Rinehart, you could be on a winner, even if it’s in the politically incorrect business of oil and gas.

Always prepared to back her own judgement, and she has been right more often than wrong, Ms Rinehart has just taken one of her classically contrarian positions by negotiating a 49% stake in the east coast gas specialist, Senex Energy (ASX: SXY).

For an outlay of around $450 million, an amount which qualifies as petty cash against her personal wealth estimated at $31 billion, Ms Rinehart has teamed up with Korea’s steel giant Posco in a deal which will deliver control of Senex with Posco holding the majority (51%) stake.

The transaction itself is interesting because it confirms a long-term business relationship between Ms Rinehart and Posco, which is a minority shareholder in her biggest mining operation, the Roy Hill iron ore mine.

The message contained in the agreement to buy a company in a business which is seen as part of yesterday’s economy is equally as interesting because oil and gas is not about to disappear, even if it has been sold down in the rush to embrace renewables such as wind and solar.

Oil and gas as a valid and potentially profitable investment

But the aspect of the deal which could be more interesting than anything is the way Ms Rinehart has signalled that oil and gas is a valid and potentially profitable investment just when her fellow iron ore billionaire, Andrew Forrest, goes all-in to expand his environmentally-driven investment vehicle, Fortescue Future Industries.

Both Ms Rinehart and Mr Forrest could emerge as winners, but probably not at the same time because Mr Forrest has taken the long view with a return on his plunge into hydrogen as the fuel of the future likely to take years, perhaps decades, whereas Ms Rinehart could see a much quicker return.

The appeal of oil and gas lies in the hefty discounts being applied to producers, even as prices for their underlying commodities have stabilised after last year’s shock crash and look to be rising in the years ahead thanks to a government-led process which is discouraging supply, but having little effect on demand.

Most small and mid-cap Australian oil and gas stocks have gone nowhere over the last six months with Senex an exception thanks to it becoming a takeover target.

The same value-creating force of corporate activity in the oil and gas sector can also be seen in the top end mergers of Santos (ASX: STO) with Oil Search (ASX: OSH) and Woodside Petroleum (ASX: WPL) with the oil and gas business of BHP (ASX:BHP).

Money made through mergers and acquisitions

Conventional growth might be difficult in oil and gas, but money can be made through mergers and acquisitions.

The joint venture bid by Posco and Ms Rinehart is a case study, boosting the share price of Senex by 33% to $4.60 as most other small to mid-cap oil stocks have lost ground, with a handful of exceptions among the companies exposed to the same market as Senex, east coast gas.

Cooper Energy (ASX: COE), which has struggled with operational issues at its projects in the Gippsland and Otway basins has managed the hold its ground at $0.28, but this week got a buy tip from Morgans, a stockbroking firm, which sees it rising to $0.34 thanks to strong east coast gas demand.

Tamboran Resources (ASX: TBN), a newly listed explorer active in Queensland’s Beetaloo Basin, has risen by 70% since early September to trade at $0.40 as interest grows in its plans to discover and sell gas into the east coast market.

Beach Energy (ASX: BPT), sold down because of operational and management issues, is winning friends again after a year in the doghouse with UBS, an investment bank adding it to the firm’s buy list because it offers “value exposure to rising domestic has prices” with the stock, currently trading at $1.24 but said by UBS to be heading up to $1.60.

East coast gas demand as the Australian economy emerges from the COVID-19 slowdown is both strong and an example of niche investing because there is no easy way of boosting supply except through exploration, discovery, and project development, and that’s being discouraged by governments.

Supply squeeze

Ms Rinehart and Posco certainly see the oil and gas business as an opportunity being created by the squeeze on supply even as demand shows little sign of decreasing, a perfect formula for higher prices.

For investors with an eye on the small end of the oil and gas sector, it’s reasonable to assume that’s what’s happening at the top end, and in the international market where the same forces of suppressed supply and steady (if not rising) demand can be clearly seen.

Supporting this thesis is the latest research from the well-connected investment bank, Morgan Stanley, which sees “a new free cash flow driven value proposition” in oil and gas.

While mainly focused on the North American market, what Morgan Stanley had to say about oil and gas is as important for investors as the original suggestions of follow the money and invest like the rich.

“Heading into 2022, we retain our attractive view (of oil and gas) underpinned by strong free cash flows, shareholder returns and appealing valuations,” the bank said.

“The Covid-driven price collapse in 2020 brought to an end a cycle defined by over-investment, weak returns and persistent underperformance in the energy sector.

“Concurrently, it ushered in a new value proposition of pervasive capital discipline and rising shareholder returns.”

Ms Rinehart and Posco obviously agree with the Morgan Stanley view of oil and gas entering a new area of low supply growth, solid demand and rising prices, a combination which other investors might do well to consider.

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