Cabot Oil & Gas (COG), an independent natural gas producer focused on the Marcellus shale, has recently announced that it has pioneered a new dual fuel technology which enables it to use natural gas to fracture wells. The deployment of engines using a mix of natural gas and diesel may reduce the use of diesel, the traditional fuel for fracking, by as much as 70%.
The technology has been developed in partnership with FTS International, a leading provider of well completion services and Caterpillar Global Petroleum, the oil and gas business of Caterpillar (CAT). The company uses a pumping unit supplied by FTSI combined with a gas blending kit from Caterpillar that allows the substitution of gas for diesel to drive high pressure pumping operations during the process of fracking. This technology offers a number of benefits, including the reduction of environmental pollution, decreased need to use trucks and the opportunity for cost savings by allowing the use of natural gas, which is cheaper, instead of diesel. Rival Apache (APA) which was the first to switch to natural gas for fracking, has reported a 60% reduction in fuel costs.
Operations in the Marcellus Shale
Despite the depressed natural gas market in the United States, Cabot profits from its location in the most promising gas producing shale in the country and its close proximity to the East Coast markets where fuel demand is strong. Cabot holds 200,000 acres in what is considered a prolific gas area in northeast Pennsylvania and Matt Portillo, an analyst for Tudor Pickering, says that these are among the lowest cost dry gas fields in the United States. Additionally, it is expected that the company can start making money on its production even with prices as low as $2 per million cubic feet. Prices are now $4 per million cubic feet, up from earlier lows of $2-$3.
Jefferies & Co. analyst Biju Perincheril says that generating sustainable free cash flows from operations is one of the ultimate goals and Cabot is one of the first producers to reach this objective. In fact, he believes that Cabot will have the problem of plenty in deciding how to use these cash flows. The company generated more than $212 million in cash flow from first quarter operations and is expected to generate surplus cash flows of $60 million in 2013 and $300 million in 2014. It is most likely that the surplus would be used for further investment in the Marcellus shale.
First-quarter 2013 financials
Highlights and for the first quarter include the production of 89.3 billion ft. equivalent (Bcfe) which is a 50% increase year over year and a 13% increase over the preceding quarter. Net income was $42.8 million (EPS of $.20 per share) and adjusted net income excluding certain items was $54.2 million (EPS of $.26 per share) which was ahead of the consensus EPS estimate of $.25 per share. Cash flow from operations amounted to $212.7 million and discretionary cash flow was $234.4 million. The company said that, despite historically low gas prices, it was able to achieve record highs for several metrics because of its success in the Marcellus.
The financial position was sound as of March 31, 2013, with total debt of $1.1 billion of which $365 million was outstanding under the credit facility. In April 2013, the lenders participating in the revolving credit facility approved an increase in the base from $1.7 billion to $2.3 billion. As of March 31, 2013, lender commitments were $900 million and the available credit was $534 million. The net debt to adjusted equity was 34.3% compared to 33.2% as of December 31, 2012.
The company's asset portfolio is well diversified and distributed between properties in the Appalachians which are low-risk and long life, and properties on the Gulf Coast which provide substantial volumes and quick payoffs. Other properties include the Rocky Mountains and the Anadarko basin, which helps to diversify the risk. The company has also hedged almost half its production for 2013 at favorable prices and this should provide protection against short-term price volatility.
The bottom line
Cabot's operations in the Marcellus continue to be impressive but it has to meet the challenge of developing infrastructure and marketing networks to support its exceptional record of low cost production. It is extremely unusual to find a company in the energy sector that can make money in the depressed natural gas markets and this alone is sufficient, in my opinion, to recommend a Buy for Cabot stock.