QRCP: At the Mercy of its Banks

Much to my chagrin I have had the unfortunate pleasure of watching one of my favorite stocks absolutely collapse this fall.  I first talked about Quest Resources (QRCP) back in May and have been positive on the company’s investment story since.  While I am more then aware that investing in the financial markets is always a risky proposition, I strongly believe that investors shouldn’t have to take managerial fraud into account when computing the risk/return of various investments.  For those who have not followed the company’s story, Quest Resources is the parent company of both Quest Energy Partners (QELP) and Quest Midstream (privately held), the company was generally doing well until its former CEO looted Quest Resources of over $10M dollars.  His actions caused the stock to crash and for Quest Resources and it’s subsidiaries to go into technical default on their credit agreements.  As a result, the Quest Resources story has turned into one that is focused entirely on liquidity and not the company’s underlying assets, which are primarily centered in the Cherokee Basin and the Marcellus Shale, I detailed these assets in May and June.

According to Quest Resources’ October update, the company has only a million dollars in cash and no available lines of credit.  In addition, the company has $33.5M in term loans that likely need to be reconfigured as a result of the former CEO’s actions.  Furthermore, the company is required to conduct $11M dollars in drilling before the end of the quarter or it will risk losing 15K acres of its 122K total acres in the Marcellus Shale due to lease violations.  The company’s other primary but illiquid assets are its ownership of 100% of the general partnership of Quest Energy Partners and 57% of the company’s limited partnership units, in addition to, 85% of Quest Midstream’s general partnership and 36% of its limited partnership units.    

Quest Energy Partners (QELP) is in slightly better shape as it has more financial breathing room.  At the time of the October update the company had $9M dollars in cash on hand, $228M in debt and $7M in undrawn lines of credit.  Unfortunately, the company is currently experiencing issues with its ability to sell the natural gas that it produces for a price that resembles those quoted in New York.  This is likely as a result of the hurricanes, SemGroup’s issues and the fallout in the credit market as it relates to the hedging that companies can or cannot undertake with quality counterparties.  I am hoping that the issue of pricing is resolved as we move into the fourth quarter. 

Quest Resources’ second subsidiary is its midstream unit.  The company had been planning to take this subsidiary public; however, with the markets what they are this will not be happening in the immediate future.  As a result, Quest Resources has violated its agreement with its joint investors and could be forced to sell the unit.  While this would not necessarily be a bad thing, it would disrupt the traditional MLP structure. 

The one saving grace for the whole organization will be whether or not Quest Energy Partners is able to pay its third quarter distribution of $0.43 cents a unit sometime during the month of November.  If the company can convince the banks to let it pay the distribution, the liquidity issues at Quest Resources will ease immensely.  Should this distribution occur it will cause a significant turnaround in Quest Resources’ share price as it will signify to stockholders that bankruptcy and/or a highly dilutive capital raise is no longer on the table.   

As I mentioned in an earlier article, the majority of MLPs can reduce their capital expenditures to next to nothing and essentially go into “run down” mode if they are unable to tap the equity and debt markets for capital to grow.  I would hope that this is what all three of the Quest companies have already begun to do.  If I were Quest Resources, I would feel more then comfortable losing the 15K acres in the Marcellus Shale if it meant that I could conserve $10M dollars that would otherwise go to drilling and instead use it to pay down debt.

The bottom line is this, if you do not already have a position, I would recommend researching it further so that you could potentially take a small speculative position. If you already own shares and feel comfortable buying more, I would take a look at the company's recent release and then decide if you were ready to lose your position entirely, should Quest Resources not receive  its distribution from Quest Energy Partners.      

For Further Review:

Quest Resources' Investor Relations

Disclosure: Long QRCP