Energy XXI (NASDAQ:EXXI) is an independent oil and natural gas exploration and production company whose growth strategy emphasizes acquisitions, enhanced by its value-added organic drilling program. The company has implemented an "acquire and exploit" growth strategy to build a geographically focused portfolio with some of the highest per-unit margins in the industry. It aims to develop the acquired properties while ramping up a complementary exploration program designed to provide organic growth for the future. The core properties are located in coastal and offshore Louisiana.
Recent Financial Results
The Houston-based company recently released an operations update in addition to its fiscal year-end results for the year period ended June 30, 2013. For the 2013 fiscal fourth quarter, adjusted earnings before interest and other, taxes, depreciation, depletion and amortization (adjusted EBITDA) was $208.6 million on revenues of $314.3 million, as volumes averaged 46,800 barrels of oil equivalent per day (BOEPD), 62% of which was oil. These results compare with 2012 fiscal fourth-quarter adjusted EBITDA of $223.1 million on revenues of $341.9 million and volumes of 47,600 BOEPD. Net income in the 2013 fiscal fourth quarter totaled $59.2 million, or $0.72 per share, compared with fiscal 2012 fourth-quarter net income of $78.3 million, or $0.93 per share.
For the full fiscal year ended June 30, 2013, adjusted EBITDA was $738.0 million, compared with $850.7 million generated in fiscal 2012. Fiscal 2013 net income was $150.6 million, or $1.86 per share, on revenues of $1.2 billion and production of 43,100 BOEPD. These results compare with net income for fiscal 2012 of $316.7 million, or $3.85 per share, on revenues of $1.3 billion and production of 44,100 BOEPD.
Operations Update: Exploration and Development Activity
Energy XXI is extensively exploring its salt dome plays, while its two recent wide-azimuths shoots revealed additional locations. Further testing could significantly improve the understanding of salt features on the shelf, and highlight both deeper and shallower opportunities around the salt. Energy XXI recently received wide-azimuth data across its South Tim 21 field via the Chevron Bay Marchand shoot, and is already identifying up-dip locations based on that data.
The WAZ shoot with Apache Corporation (TICKER: APA) in the Main Pass area is approximately 70% complete, and that data will be used to identify the next two prospects in the APA JV, likely next year.
Recent Well Results
The Heron well (25% WI/ 17.8% NRI), located on Main Pass Block 295 and operated by Apache, is the company's shallow-water salt dome exploration play. It has been drilled to 13,170 feet MD/ 13,160 feet TVD, with a proposed depth of 20,000 feet TVD. A liner has been set and the well will resume drilling toward multiple primary target sands trapped against a salt dome. As announced, the well previously encountered 76 feet of net oil pay in two sands, as identified with wireline logging equipment.
The Merlin well (50% WI/ 41% NRI), located on Vermilion Block 178 and operated by Energy XXI, was spud in mid-June. The well is drilling below 14,115 feet MD/ 12,165 feet TVD, with a proposed depth of 19,750 feet MD/ 15,700 feet TVD, and is targeting multiple oil and gas sands trapped against a salt dome.
After drilling Merlin, the company will move the rig to the West Delta 30 and begin a four-well development program, and potentially Stricker, which is an "exploration" well targeting an unproduced fault block. West Delta 30, which is similar geologically to WD 73 and hasn't seen drilling since 2006, was responsible for 10 MMBoe of reserve additions in the YE13 reserve report. The company is likely to proceed with at least one vertical well in the field before shifting to a horizontal program. With success, the company could accelerate operations in the field this year, which would likely require an additional platform next year.
At the West Delta 73 field (100% WI / 83% NRI), the Big Sky 3 well is currently being brought online with a 1,283-foot lateral in the F-30 sand. Big Sky 3 represents the fifth consecutive successful completion from this horizontal program. The next horizontal well, Hulk, is in the midst of drilling and is targeting the H-35 sand.
The Java well at Main Pass 61 (WI 100% / 78% NRI) was brought online in late July 2013 producing 1,400 Bbl/d of oil and 1,600 Mcf/d of natural gas, gross, with flowing tubing pressure of 400 psi from the J-6 sand. The Monte Carlo 2 well, spud in late July 2013, has been successfully completed and currently is being brought online.
Within the ultra-deep exploration program with Freeport-McMoRan, the Lomond North prospect (18% WI/ 13% NRI) in the Highlander area, located primarily in St. Martin Parish, Louisiana, is drilling below 25,100 feet toward a proposed total depth of 30,000 feet. The well is targeting Eocene, Paleocene and Cretaceous objectives below the salt weld. The Lineham Creek exploration prospect (9% WI/ 6.75% NRI), located onshore in Cameron Parish, Louisiana, is acquiring cores in the sidetrack wellbore below 23,000 feet, toward a target depth of 30,500 feet.
Proved Reserves Increase
Energy XXI generated a significant gain in proved reserves for the fiscal year, moving to 179 MMBoe from 119 MMBoe. This is a 50% improvement Y-O-Y from June 30, 2012. The increase boosted the reserve replacement ratio to approximately 390% organically, and up to 469% when acquisitions are included. The company increased the PV-10 value for the proved reserves almost 100% from FY2012 to $6.1 billion from $3.3 billion.
Other areas for growth have been laid out as part of the FY2014 capital expenditure plan, allocating $660 million towards improvements. $360 million will go towards low risk development drilling and recompletions, $100 million towards exploration drilling, and $80 million towards facilities.
CEO John Schiller said in the news release, "Our goal is to increase shareholder value, primarily through reserves and volume growth while spending within operating cash flow."
The shift towards horizontal drilling has opened some new doors for Energy XXI and the valuation of the company will reflect that change. OAG360 examined the company's valuation based on a multiple of proved reserves and a PV-10 valuation methodology.
When the market closed on August 22, 2013, shares of EXXI were trading at $26.03. Based on the two methodologies, we estimate that Energy XXI's share value to be between $32.91 and $37.74 per share.
For calculating the per-share valuation, we used basic shares outstanding as of July 31, 2013. The company is buying back shares. As of August 21, 2013, the company bought in 3.9 million shares at an average repurchase price of $24.37 per share.
Net Asset Value: Proved Reserves
As of June 30, 2013, EXXI had proved reserves of 179 MMBOE, an increase of 50% compared to the one year ago. As of August 16, 2013, the average enterprise value to proved reserves ratio from a group of Energy XXI's peers was $21.96 per BOE. Adjusting for the company's balance sheet items and assigning a probability of success of 90% to the proved value and 50% to the possible value, the result is a valuation of $32.91 based on proved reserves. For conservatism, we assigned a probability of 0% to the company's possible reserves. As EXXI executes its drilling program, we believe those possible reserves could positively impact the company's per-share value. If we were to assign a very modest 10% Ps, the value per share jumps up another $2.26 to a total per share value of $35.17.
The PV-10 value is a metric utilized to predict future cash flows discounted at 10%. We utilized this metric for Energy XXI because the increase in reserves has significantly changed the PV-10 value for the company. Pre-tax future cash flows for the company are estimated at $6.1 Billion. The SEC Standardized Measure of the company's proved reserves, an after-tax measurement of the company's proved reserves, is $4.5 billion. Using this after-tax figure for this particular valuation methodology, and adjusting for current balance sheet items, we derive a per-share valuation of $37.74.
Assigning a weighted average of 50% to reserves and PV-10, OAG360 estimates EXXI's equity value could be worth $35.33 per share.
Schiller and team are taking steps to adapt to a changing operating landscape - namely in the form of drilling horizontal wells and pre-salt targets. The company is taking the lead with shareholders, managing the balance sheet and buying in shares. Following previous drillbit success, the company is targeting 2014 production growth and free cash flow.
Disclosure: I am long EXXI.
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