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Jam today: can this newly listed oil and gas stock live up to its promise?

Aim debutant Diversified Gas & Oil believes its business model can provide lower risk and assured dividends
February 8, 2017

Nowhere is there more buzz in the oil industry right now than in the US. Onshore production, devastated by the adjustment to life below $100 a barrel, has been rallying for much of the past year as prices moved beyond a lowered break-even point for shale drillers. Many expect further support from an administration that promises to be even more hydrocarbon-friendly than Barack Obama's presidency.

Against these improving market conditions, companies involved in onshore US drilling have been able to attract new money with ease. According to analysis from Preqin, North America was on course to attract three-quarters of global investor capital committed to unlisted oil and gas in 2016. That picture has cemented with the post-November stabilisation of oil prices above $55. Given the industry's proximity to massive public and private sources of domestic capital, London - normally considered a natural resources fundraising hub par excellence - has not played a significant role.

A recent exception to that trend landed on the Alternative Investment Market (Aim) last week, in the shape of Diversified Gas & Oil (DGOC), which is benefiting from shale-hungry US drillers' propensity to sell older conventional assets for next to nothing. According to management, London's junior bourse was chosen for a listing for three reasons: institutional investor access, the risk of being overlooked on the New York stock market, and the fact that the company's bonds were issued here on Aim competitor ISDX (formerly Plus Markets and Ofex) in 2015 and 2016.

The vast majority of those bonds can now be redeemed following the 65p-a-share, $50m (£39.7m) fundraising, which was backed by the likes of Henderson Global Investors and GLG Partners. DGOC will use the remaining proceeds for debt repayments and working capital requirements.

It's not hard to see how the company became the largest oil and gas IPO since prices started falling in 2014. Although its rather bland name fails to distinguish it from other junior producers, DGOC's business model is unique. Founded in 2001, it owns and operates around 7,500 oil and gas wells in the Appalachian Basin, many of which were acquired from larger conventional oil companies focused on bigger individual positions. And while production is fairly meagre at 4,700 barrels of oil equivalent per day, DGOC has a total of 27.9mmboe proven oil and gas reserves across the neighbouring states of Ohio, Pennsylvania and West Virginia.

Production, the vast majority of which is gas, benefits from shallow decline rates and low costs, thereby reducing the portfolio's price sensitivity. Furthermore, DGOC's assets are surrounded by an abundance of third-party pipelines, which are only likely to proliferate under a Trump presidency.

Growth in the asset base is predicated on acquiring more productive assets valued somewhere between one and three times annual cash flows. Although DGOC is highly selective in its buying, and has a huge pool to fish in, its model is to a large degree reliant on finding more wells at knockdown prices, which can generate enough cash to support a progressive dividend policy of at least 40 per cent in operating cash flow.

DIVERSIFIED GAS & OIL (DGOC)
$m2013201420159m to Sep 2016
Revenues5.177.366.3013.4
Gross profit2.423.802.053.5
Non-recurring items*-0.916.5838.4
Pre-tax profit-2.83-0.24-0.4135.8
Net assets (period end)-5.06-7.34-8.8227.1

Source: Admission document. *Includes gains on bargain purchases and debt cancellation