Investing in natural resource exploration sounds risky. Enough of these companies go bust that it makes sense to approach with caution. Imagine sitting across the table from a CEO with 30 years of oil industry experience who described his small company as a pure play oil exploration and production company in Colombia. The company, he continued, has property adjacent to one of the largest developed oil finds in Colombia and has drilling rights, which, if successful, could mean production of hundreds of millions of barrels of oil. After spreading out a twodimensional seismic graph that covered our entire conference room table, he pointed to a multicolored area and, to paraphrase, stated: “You see this structure? This is almost identical to the structures adjacent to us that are producing greater than 10,000 barrels of oil per day. After completing seismic shooting of only 25% of our property we have identified 12 similar structures.” I left the meeting wondering if the story was too good to be true.

John Terwilliger, the CEO of Houston American Energy Corp. (HUSA), isn’t a flashy executive fresh off of Wall Street’s production line. If anything, he appeared disheveled: the monogrammed initials on his shirt were off-centered, his tie was from a 1980s music video, and he had a tan that looked fresh from a nice long vacation. In short, Mr. Terwilliger is a genuine business operator. Evaluating geologic structures in foreign countries isn’t the business of polished executives, it’s a place for explorers and calculated risk takers. I like the idea of a CEO who gets out of the office, is involved in the operation of his business, and maintains a lean staff and low operating costs.

After fully evaluating the company we felt comfortable with the following opinions:

• We think the company is legitimate and their assets exist. Sell-side research analysts and independent geologists confirmed the existence of meaningful geologic structures.
• The assets are adjacent to other significant discoveries.
• Management has a history of successful exploration and production in the same geopolitical area.
• The Colombian government is supportive of natural resource exploration and production.
• We believe that earnings from current production are nearly sufficient to fund exploration activities.
• HUSA’s future exploration activities, if successful, have very significant upside potential. We think the potential rewards justify the risks.
• The company has existing development partnerships with significantly larger and more experienced companies.

On a conference call several weeks ago, John Terwilliger outlined the progress of seismic shooting in the CPO-4 block. In one to two weeks we expect additional comments from the sell-side as earnings are released and we get more visibility on the CPO-4 seismic data; in mid-June we expect comments from announcing further progress on the 3-D seismic shooting in CP0-4 and in mid-July we expect to receive production information from two additional wells being drilled in the Serrania block. In December the company plans to drill its first two wells in the CP0-4 block. Also looming in the background is the Hupecol partnership assets which could be sold at any point, netting anywhere from $20M-$40M to HUSA. In our opinion, HUSA is an undervalued small cap company with exposure to an area that has generated significant interest from large cap exploration and production players.

Despite a volatile stock chart, we believe that the upside potential of hundreds of millions of barrels of oil distributed to approximately 31 million shares translates into a potentially significant return on investment.

Lee Wolf, Securities Analyst,
Wanger Investment Management, Inc.