Vermilion (NYSE:VET) is a Calgary, Alberta-based company that explores and produces natural gas and oil. Its primary operations are in Canada with additional fields in the Powder Basin in the Western U.S. as well as in Australian and in Europe. Many years ago, Vermilion stock was a high-dividend-paying stock structured as a Canadian Income Trust (CIT) with shares also trading in the U.S. market. Back then, income trusts were structured much like U.S. passthrough securities such as master limited partnerships (MLPs). As such, income trusts were exempt from Canadian income tax as the investors were on the hook for taxes on distributions from the companies.
This worked out very well for investors, particularly those with the Canadian version of qualified retirement accounts known as RSPs for retirement savings plans as well as pension plans. They received lots of income to build up retirement savings and later had nice distributions to live on in retirement.
In addition, petrol and other high-capital-intensive companies got access to the market and raised plenty of needed capital to build up and out the expansive resource industry that helped drive the Canadian economy to higher economic growth.
But the Canadian Parliament saw it otherwise.
It saw the CIT model as a tax-loss scheme that was costing the government revenue. So, it mandated a tax withholding law for U.S. retirement account investors as well as regular investors on CIT distributions. This sent the CIT market, including for Vermilion, down hard. In addition, it also set into motion taxes on distributions for many Canadian investors. Again, the CIT stocks got hit hard.
The Canadian government didn’t understand that the CIT distribution tax loss was really just a delay in the tax collection from RSP investors as well as for pension fund investors that paid taxes eventually on their distributions. And the government failed to comprehend that the resource market was a vital part of the economy and that the CIT structure was a major source of capital funding for the sector.
Many CITs were taken private by pension funds and others converted to traditional corporations and lost much of the advantages for retirement and other investors in Canada and the U.S. And distributions were reduced to reflect corporate taxes paid.
Vermilion’s stock hasn’t been a good investment for U.S. or Canadian investors over the past five years alone. Losses for Canadians in the stock price alone have been 25.91% and in the U.S. with a lower Canadian dollar along the way meant losses were greater at 40.36%.
But that’s history. Now, Vermilion is a buy.
How Vermilion Stock Is Turning It Around
Oil, of course, is a great business to be in. Crude oil in the North American market has soared in price with global supplies down thanks to the losses of many major producing nations and global demand soaring.
Production gains in the U.S. and Canada alone are stepping up driving up the fortunes of oil and gas companies. With benchmark crude prices as measured by West Texas Intermediate (WTI) up 52.01% over the past twelve months, the oil patch is profitable.
Then there’s the market for natural gas. This is where Vermilion has a problem with much of its Canadian production. There’s a glut in gas; and over the past five years, gas prices are down some 50%. Over the past twelve months, they’re down 12%.
The problem is transportation, storage and use. This is also a problem for many of the oil producers in North America as well. Pipeline construction is now stepping into the mess with both the Canadian and U.S. governments stepping up to grant access for new and expanded pipes over local objections. The Canadian government has even gone further to fund pipeline projects particularly in Western Canada that will dramatically help Vermilion.
And for gas, Canada is leading the way for expanding LNG (liquified natural gas). Two major projects are getting underway that will significantly aid Vermilion and other producers of natural gas.
First is the LNG Canada project that will provide a major LNG export terminal on the West Coast of Canada. Led by Royal Dutch Shell (NYSE:RDS.A), PetroChina (NYSE:PTR) and Mitsubishi (OTCMKTS:MSBHY) with Canadian government funding, it will be driving LNG exports to Asia and driving profits for Vermilion and other producers.
Second is GasLink — which is a major additional gas pipeline project led by TransCanada (NYSE:TRP) with expected tie-ins with gas pipe networks and LNG facilities in Western Canada such as are owned by Pembina Pipeline (NYSE:PBA) which has a relationship with LNG Canada partner, Mitsubishi. The GasLink project will make Vermilion’s gas production all the more valuable.
Bottom Line on VET Stock
Financials for Vermilion of late have not been as impressive. Depreciation allocations were stepped up, reducing the appearance of profits and on the surface makes the company and Vermilion stock not appear as lucrative as other producers.
I see this as a further opportunity to buy in now on the cheap with additional prospects for better revenue gains from expanded crude oil pipes and the expansion of LNG. Vermilion has a paltry dividend at the moment yielding 0.53% for U.S. shares. But it’s trading at a low 2.46 times its book value making it a cheaper oil and gas company right now to buy.
Neil George is the editor for Profitable Investing and by company policy does not have any current holdings in the securities mentioned above.