Sanchez Energy Corp. (SN) is a fast growing exploration and production company focused on the acquisition and development of oil properties, particularly the Eagle Ford Shale. SN has obtained ~140,000 net acres in this deposit, which is one of the country's premier oil plays, running 2nd only to the Bakken in terms of oil production. However, BofA Merrill Lynch Global estimates the Eagle Ford will challenge the Bakken in several years time:
Sanchez has 90% of 2013's operating capital investments devoted to the Eagle Ford Shale formation, and ~98% of 2013's drilling budget toward developing the Eagle Ford acreage.
The first 6 months of 2013 was phenomenal for Sanchez, as high leverage to oil production allowed them to capitalize on continued strength in oil prices. For 1H 2013, the company has grown tremendously compared to 1H 2012:
Notice the greater than 500% growth in oil production and oil revenues for 2013 vs. 2012, while oil prices were marginally the same in both periods. I mention the static pricing to emphasize SN is not simply enjoying higher pricing from hedges or other sources to boost revenues. The company has grown revenues by 545% versus the period last year as a result of increased production, stemming mostly from acquisitions.
Debt, Expenses, Risks and Valuations:
Before we get too excited by Sanchez's growth we should examine the other side of the ledger, as we should assume debt and other expenses also grew as a result:
As expected, production expenses grew 617% to $10,072, which was proportionately slightly higher than the increase in production volumes and revenues. The company reported average production costs increased from $8.63 per boe to $9.52 per boe, indicating the company has lacked slightly in efficiency. However, if we examine total operating costs and expenses, we can determine the 107% increase is more than manageable relative to increases in revenue. The $8,153 in new interest expenses caught my eye, indicating the company only recently has taken on debt. According to management, the company has about $400 M in debt currently, which is very manageable in my view.
- Enterprise Value [EV]: $1.323 B
At the end of 2Q 2013, SN had a common stock market cap of $800 M, $375 M of perpetual convertible preferred stock, $252 M in cash/marketable securities, and only $400 M in debt.
- EV/EBITDA ratio: 10.33 for FY 2013 conservative estimate
SN reported $43.2 M in EBITDA for Q2 '13, totaling $64.20 M in EBITDA for 1H 2013. Now, if we conservatively estimate 2H 2013's will match the first half's $64.2 M, 2013's EBITDA will be $128 M in total. Now, if we assume EV value stays the same, we can estimate an EV/EBITDA multiple of 10.33, which is amazingly cheap considering SN's growth trajectory. I admit assuming a static EBITDA is crazy for a growing company like SN, but doing so gives us an idea of SN's value at current profit levels, and thus a starting point for estimating this ratio based on future EBITDA growth.
- Current EV/Daily Production (EV/BOE/D): 171 K (using current 7,700 average BOE/D)
- 2013 Projected EV/Daily Production (EV/BOE/D): 88 K (using year end 2013 projected 15K-17K BOE/D
The average daily rate for Q2 2013 was about 7,700 BOE/day, compared to 3,900 in Q1 and 859 in Q2 2012, a huge increase for sure. The company recently released estimates for a 15,000 to 17,000 BOE/D production rate, which speaks to Sanchez's continued growth expectations. By this metric, SN seems relatively expensive, however the growth is immense, even just looking 6 months out. If growth can continue at this rate, the stock is very cheap on a forward looking basis.
Considering only ~60% 2013's and ~30% of 2014's planned production is currently hedged, the company is particularly exposed to commodity pricing. An oil bull might consider this a positive if their opinion is for oil prices to stay steady or rise, particularly because some oil companies utilize selling calls to fund put buying, which can cap upside potential. Sadly, this is the case with some of SN's hedges. Regardless, SN's lack of hedges for much of its production combined with a high leverage to oil is still a meaningful risk.
Considering the company has a total PV-10 of $846 M and a PV-10 of $669 M after taxes, the company seems richly valued based on current proven reserves, especially compared to other companies in the space. Also, the company's EV/EBITDA ratio seems fairly valued relatively speaking, as there are plenty of other companies that seem much cheaper, however they have fair less growth and often times more debt.
Sanchez is an amazing growth story, as some of the 10-Q graphics I chose to highlight clearly show. The company is on a clear trajectory of growth in nearly every metric, including EBITDA, reserves, and production. Management has been on a rampage making deal after deal, and I think investors can still catch some upside even at these levels. Sanchez is one of the best run E&P growth stories around, but the secret seems to be getting out. If you believe SN's trajectory can continue and oil prices will not decrease meaningfully, Sanchez is still a buy.