Description

Search Energy (SGY-TSE, SGYF-NASD) is a Canadian oil and gas concern that plans to reorganize as an O&G Income Fund, to be named Advantage Energy Income Fund. The reorganization will be acheived by converting every 4 shares of Search into 1 unit of Advantage. All numbers will be in Canadian Dollars and, for ease, based on the Search shares.

Conversion to a unit trust will eliminate taxes and overhead. It will also allow the firm to cut the E&P budget. The initial monthly dividend is set at supportable 7cts, yielding 31% at $2.69/share. NAV for Search is currently $3.40. Additionally, Search has longer-lived reserves of approximately 10 years, consisting of 60% natural gas. Trusts with longer-lived reserves tend to trade at a premium to NAV. Additionally, such trusts tend to trade at a yield of 18-22%. Assuming the units trade at a 20% yield would imply a price of $4.20/Search share.

The risk involved in this investment is primarily that of the price of natural gas, as the cash flow available for the dividend will fluctuate with the price of natural gas. The stock is trading at this level because many shareholders had bought the stock to speculate on a takeover of the firm. No sufficient bids emerged, thus the conversion to a royalty trust. So shareholders who bought in anticipation of a takeover are selling out to shareholders who want to own the unit trusts. In Canada, the E&P stocks investors tend to be the professionals who are willing to take the risk; The royalty trusts tend to be "retail" who want yield.

Catalyst

Conversion to unit trusts at May 23, 2001 shareholder meeting.