Exploration prospects a plus for these two

DELPHI ENERGY $3.18 (Toronto symbol DEE; SI Rating: Speculative) (403-265-6171; www.delphienergy.ca; Shares outstanding: 101.2 million; Market cap: $321.8 million; No dividends paid) explores for oil and gas in Alberta and B.C. Natural gas makes up 83% of its daily output.

In the three months ended September 30, 2009, Delphi’s average daily output rose 5.6%, to 6,773 barrels of oil equivalent (this measurement includes natural gas) from 6,409 barrels. Despite the higher production, Delphi’s cash flow per share fell 33.3%, to $0.16 from $0.24 a year earlier. That’s because of lower oil and natural-gas prices.

Delphi now holds 172,209 acres of undeveloped land. That’s up 37.3% from 125,359 acres in 2008. That gives it lots of drilling targets to increase output.

The company’s $96 million of debt is a manageable 30% of its market cap, and only 1.9 times its annualized cash flow (based on the latest quarter). The stock trades at only 6.0 times Delphi’s forecast 2009 cash flow of $0.53 a share.

Delphi is a buy for aggressive investors.

ZARGON ENERGY TRUST $20.18 (Toronto symbol ZAR.UN; SI Rating: Speculative) (403-264-9992; www.zargon.ca; Units outstanding: 23.2 million; Market cap: $468.2 million; Dividend yield: 10.7%) produces oil and natural gas in Alberta, Manitoba, Saskatchewan and North Dakota.

In the three months ended December 31, 2009, Zargon’s production rose 12.5%, to 10,586 barrels of oil equivalent per day (including natural gas) from 9,410 barrels. Its output is weighted 52% to oil and 48% to natural gas. This diversification helps cut its risk.

Despite the higher production, cash flow per share fell 2.1%, to $0.95 from $0.97 a year earlier. The drop was caused by lower oil and natural-gas prices.

The trust’s $76.6 million of long-term debt is just 16% of its market cap. It pays out only about 57% of its cash flow as distributions, and yields 10.7%. Ottawa will start taxing income trusts in 2011. At that point, Zargon plans to convert to a dividend-paying corporation. It then expects to pay out 50% of its cash flow as dividends. That could lower its monthly distribution from $0.18 to $0.15.

The trust used its strong balance sheet to make small acquisitions in 2009: In April, it paid $40 million for Masters Energy, and it recently bought Churchill Energy for $15 million. These added to its production and cash flow per unit. Zargon is still looking to buy other oil and gas firms.

The trust plans to spend about $58 million on exploration and development this year. That’s up 26.1% from the $46 million it spent in 2009.

The units trade at 5.9 times Zargon’s forecast 2010 cash flow of $3.40 a unit.

Zargon Energy Trust is a buy.