Michael Berry: Picking the Discovery Plays - Stocks Positioned for Take Off

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In this exclusive interview with The Energy Report, the final installment of a three-part series, Dr. Michael Berry names some of his favorite energy plays. Most of the companies he discusses have yet to be recognized by the market. A pioneer in the field of discovery investing, Dr. Berry researches companies in natural resources, high technology, and biotech.

In this exclusive interview with The Energy Report, the final installment of a three-part series (Part I and Part II), Dr. Michael Berry names some of his favorite energy plays. Most of the companies he discusses have yet to be recognized by the market. A pioneer in the field of discovery investing, Dr. Berry researches companies in natural resources, high technology, and biotech and publishes "Morning Notes," which The Gold Report posts when published.

TER: In our first interview, you discussed discovery investing. Let's continue that thread. What are some of the energy plays you find most interesting?

MB: I've been in Oilsands Quest, Inc. (AMEX: BQI) for about three years. Oil Sands has put together about 770,000 acres in Saskatchewan, which is a province of Canada and right next to the oil sands in Alberta. The company ignored skeptics who said all the bitumen was in Alberta, proving them wrong in February 2006, when the first hole the company drilled produced high-grade bitumen. The stock shot up from 50 cents to $9, then fell back to $4.76, where it's trading today. Oil Sands now has 1.1 billion barrels of bitumen. Before long that number will grow to 5 – 6 billion. In the ground, bitumen is worth about $1, give or take. So this was a great wealth-creating discovery. I think the stock is tremendously undervalued; it has great potential.

TER: Do you think Oil Sands will continue to go it alone, or look for a partner?

MB: Historically, big foreign companies like Standard Oil, the Russians, the Chinese, and the Americans partner with smaller Canadian producers in Alberta and Saskatchewan. So, I wouldn't be surprised if Oil Sands partnered with another company to develop this resource.

TER: Any there any others along these lines that you like?

MB: MegaWest Energy Corp. (OTC Bulletin Board: MGWSF) is one that I like, and it's cheap right now. It's a Canadian company that has an interesting strategy that involves staking out heavy oil in the U.S. The advantage of doing this in the U.S., as opposed to Canada, is that you don't have to build infrastructure. If MegaWest were to go after heavy oil in the Athabasca of Canada, the company would need billions of dollars to build pipelines and upgraders. That's not the case in the U.S.

TER: But isn't heavy oil out of favor right now?

MB: It is. Oilmen don't like heavy oil because it's much more difficult to extract than light oil. But the truth is, in the U.S., we are going to need to develop both our standard oil and our heavy oil. MegaWest went quietly to Kansas, Missouri, Kentucky, Texas, and Montana, and started buying heavy oil deposits very inexpensively. The company is now drilling these deposits and proving them up, and they have refineries fairly close by that will take the heavy oil. The refineries like the heavy oil because they can take it and blend it with the lighter crude, which increases their volume. MegaWest has about 2 billion barrels in the U.S. in the ground, and over the next few years it will either develop these or they'll be taken out. That's a really nice discovery. The stock is selling for about 61 cents right now. I think it has a lot of potential.

TER: How about one more name in the oil sands arena.

MB: I wrote the first two reports on Birch Mountain Resources Ltd. (BMD:TSX/AMEX) four or five years ago, when the stock was 46 cents. Birch Mountain discovered a limestone deposit in the Athabasca region of Alberta where all the oil sands are. In order to process oil sands, you've got to have aggregate. You need cement and you need pure limestone to de-sulfur the air that comes out of the smokestacks up there. Birch Mountain has a major pure limestone deposit. The stock went to $9 before it fell all the way back to 50 cents because the company's business plan was not in sync with the business plan of the Athabasca. They were on different cycles, and they're just now turning the corner. So, here you have a stock that is unloved, unwanted, it's a great contrarian play, and it's probably time to buy this stock.

TER: Changing focus a little here, what are your thoughts on natural gas?

MB: That's another market that I strongly recommend for 2008. Natural gas plays are very cheap now. De Jour Enterprises (DEJ), which has major properties in Colorado and in Utah, and in the Peace River Arch area of British Columbia and Alberta, is a great play on natural gas.

TER: Coal has been recently been referred to as the new black gold. What are your thoughts on this?

MR: Right now Australia is not shipping any coal and the mines in South Africa have had to shut down –because Eskom, the utility there, cannot produce any electricity because there's no coal. Whether we like it or not, and I don't particularly like it, coal is going to have to be a baseline producer of electricity for at least the next decade. The Chinese are trying to build a coal-fired plant every week to bring it on line. So, you ought to be looking at some of the coal producers. One that I follow is a very cheap stock called Galway Resources (GWY). Galway just acquired major low-sulfur coal deposits in Colombia, South America along the Magdalena River. They also have tungsten and molybdenum deposits in the U.S., and the stock has traded down to about 57 cents. So, again, it's a little bit out of favor, a little bit behind the curve and a stock that people should at least be looking at in terms of coal exposure.

TER: What is your take on uranium at this stage of the game?

MB: I fell out of love with uranium. Through 2005 and 2006, everybody wanted uranium properties. But the cycle got ahead of itself because we're not actually building reactors yet. Worldwide there are plans for 240 reactors, with multiple reactors. Each reactor takes a million pounds to start and a million pounds of uranium in reserve. So people took pen to paper and figured what we're going to need and came up with a deficit of a couple hundred million pounds a year. So the price went from $7 to $138. Now it's $68, which you would expect. This is what I call the "mystery history ship." When there's mystery, the price goes to extremes, and then when the cold, cruel light of dawn hits and it dawns on you this isn't going to happen, the price comes down.

Now uranium stocks are in the tank. If I were a discovery investor, I would be looking at some of these stocks, Uranium One (TSE: UUU) in particular. This stock has fallen from $17 to about $4.97. The company has had some problems but they have reserves all over the world, and I think this is a very, very cheap stock. When we move into the next phase of building nuclear reactors, which I believe we will, then you're going to see supply and demand imbalances, and you're going to see uranium go back up. So, now is the time to be entering the uranium market.

TER: And other energy-related names you like?

MB: A name that I like a lot is Valcent Products Inc. (OTCBB: VCTFF) in El Paso, Texas. I've been to visit the company three or four times. I make a point to do this with discovery plays because I'm looking for improvement. If I don't see it, I won't waste my time. Valcent hired a couple of Ph.D.'s in plant biology to build a closed-loop system to grow algae. Algae are prolific and they produce oil. The problem has always been that if you grow them on a pond, the sunlight can no longer get through once they start to populate. Glen Kertz, who is in charge of Valcent's greenhouse operations, built a closed loop system of bags that hang in a greenhouse. The system runs water through the bags, and after enough algae have grown, it's harvested. Valcent expects to produce 33,000 gallons per acre per year of vegetable oil. As an added benefit, the algae consume carbon dioxide and give off oxygen, so the company could earn some carbon dioxide credits. Once Valcent decides exactly how to produce the oil, I think this could be a very, very interesting play. It's a discovery; it's a technology for closed-loop production of algae. To my knowledge, this has never been done before.

TER: Is this technology still in the laboratory stage?

MB: Yes. There are a few problems to work out yet. For instance, there are 64,000 varieties of algae. Different types of algae produce different oils. Some of the oils can be used for biodiesel, others for pharmaceutical products. But they're all high-margin. Producing oil for biodiesel fuels from algae is much more high-yielding than producing it from corn. By using this bag system in a greenhouse, you cut your land-use by a factor of 100. The water is purified and re-used, so there's virtually no water loss. To grow corn, you need water and fertilizer. All you have to feed the algae is carbon dioxide and a little water that you keep at a certain temperature. Clearly, Valcent has a way to go before it perfects the system and can market it. But it's a company that has captured a lot of interest. The stock is selling a little under 70 cents. I think it's for real.

TER: What else?

MB: Senesco Technologies Inc. (AMEX:SNT) is an interesting little company that is changing the way plants grow, making them more adaptable and easier and less expensive to cultivate. Dr. John Thompson, one of Senseco's scientists, discovered how to alter a gene, called Factor 5A, in tomatoes to make them survive longer without ripening. The gene is already contained in the tomato; there's no altering of the plant's genetic structure. The process is called senescence. Senesco now has major global contracts in corn, soy beans, cotton, canola, grass and shrubs, to grow all these plants to the same yield without using any fertilizer. Now, if you think about what's happening today with soy and palm oil, those two commodities have doubled in price in the last two years. And so has fertilizer. Fertilizer comes from energy, and we have energy inflation now throughout the world. Senseco has already completed eight years of field trials on bananas – the world's third largest crop. The company has successfully increased the yield on bananas by about 100 percent. There's a fungal disease called Black Sigatoka that's destroying the banana crops throughout the world. By regulating the Factor 5A gene, growers can keep the banana plant alive longer. It's a very significant discovery on the plant side.

TER: Senesco is also working on something involving human testing, isn't it?

MB: Yes, the company has conducted tests on rats at the University of Virginia, using Factor 5A technology to successfully halt sepsis – a condition that occurs when the immune system turns against the body and kills it. Testing is set to begin soon on humans. The technology has positive implications for avian flu. But the highest priority is multiple myeloma. The Mayo Clinic has tested Senesco's Factor 5A technology in a mammalian cell on rats. It's resulted in complete remission of some human cancers in mice.

TER: And yet the company is still relatively undiscovered?

MB: The stock is trading at only $1.33, which is ridiculous. This is what I love about discovery investing. If you're out there looking, you can stumble on a major discovery like this that hasn't yet been properly recognized by the market. Even if this technology can't cure cancer, but can extend human life by six months, that's still a major discovery. Most of the chemo drugs that exist now for multiple myeloma give you only two or three months, and those are billion-dollar products for the companies that make them. Now, there's no guarantee that when you go from mice to men the technology will be as successful. It doesn't always work that way. But the Mayo Clinic wouldn't be wasting its time if there weren't reason to think the technology has significant potential. And even if it doesn't, Senesco still has the plant growing side of the business, which has huge potential on its own.

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