Considering its large exposure to heavy oil, Baytex Energy (NYSE:BTE) is likely to post blowout results when it reports in a couple days. Heavy oil prices were generally elevated throughout Q3 as shown by the Western Canadian Select, or WCS, index. The spread between WCS and West Texas Intermediate, or WTI, contracted significantly last quarter. As a result, prices for WCS were at levels not seen since early 2012.
However, Baytex' stock price has had a muted quarter, with shares essentially flat over the past three months. This is frankly unjustified and may be a case of the market mispricing the earnings potential of Baytex. Another reason to be bullish Baytex is due to its large dividend yield, currently at 6.20%, paid monthly at $0.21 per share.
Q2 2013 Overview
On August 14, Baytex reported its Q2 2013 results. Production came in at 58,236 BOE/D, revenues from oil and gas sales came in at $341.0M, revenues per BOE came in at $60.42, operating netbacks came in at $31.71 per BOE, while FFO came in at $155.8M.
In July, I wrote an article where I gave my estimates for Baytex' Q2 results. Below is an comparison between my estimates and the actual results.
In general, Baytex easily beat my estimates. Production came in nearly 500 BOE/D above previous guidance. Revenues came in nearly 10% where I expected them to settle. However, my estimate did not include revenues from heavy oil blending, which were nearly $20M in Q2. Adjusting for this item, my estimate was off by $11M, or 3.5%.
Operating netbacks and FFO benefited both from higher than estimated production and higher pricing for heavy oil. Baytex was able to capture higher realized prices for its production due to increased use of rails in Q2. I estimate that both these items added around $0.25 per BOE to operating netbacks and around $5M to FFO.
Overall, I am happy with my estimates for revenues and operating netbacks, but disappointed with the FFO estimates. FFO has become a very noisy metric, with larger quarter to quarter variations. I also underestimated Baytex' heavy oil prices by around $3 per BBL. However, as noted above, this is mostly due to heavy oil blending revenues. I also underestimated the decline in realized prices for NGLs, but this was offset by slightly lower than expected light oil prices.
Q3 2013 Estimates
*** Do note that my estimates do not take into account the impact of hedges nor do they include revenues from heavy oil blending.
As I noted in the intro, the market appears to be undervaluing Baytex. Canadian heavy oil, which is by far the largest source of revenues for the company, increased in price in Q3 compared to Q2 levels. This increase is caused by two factors. The first and most significant factor was the general increase in North American oil prices. WTI rose in price in Q3, oftentimes squeezing the spread between it and Brent to near zero. The second factor in higher heavy oil prices was a decrease in the spread between WCS and WTI. This was caused by improved transportation, thanks to the use of rail and increased pipeline capacity, and more demand from gulf coast refiners for price advantaged heavy crude.
An area of weakness for Baytex would have to be natural gas, which saw its prices decline in Q3 compared to Q2. However, Baytex produces relatively low amounts of natural gas and this decline should not impact it much.
Below are my estimates for Baytex in Q3. Do note that I will be using the midpoint of its guidance for production and expenses which it provided in its recent October presentation.
First, let us start with Baytex' natural gas production. The AECO natural gas settlement prices were $3.07 for July, $2.59 for August, and $2.36 for September. This averages out to about $2.67 per MCF, a decline of 22% from $3.40 last quarter. However, Baytex typically sells its natural gas at a discount to even AECO prices. For Q2, this discount was nearly $0.50 per MCF. Therefore, my estimate for Baytex' realized natural gas price for Q3 will be around $2.17 per MCF.
Assuming flat production from Q2 levels of 45,100 MCF/D, Baytex would generate around $9.1M from natural gas sales, down $5.6M from $14.7M last quarter. While this decline is sharp in percentage terms, in dollar terms it is nearly nothing, at around 2% of total revenues for Baytex.
Light Oil and NGLs
Unlike many E&Ps, light oil is not a major factor for Baytex, at under 15% of production. I estimate that Baytex will see its realized prices for light oil and NGLs increase around 8% for Q3 to around $84.00 per BOE. Do note that my estimate assumes an increase of over 10% for light oil prices and a flat NGL prices.
Assuming flat production from Q2 levels of 8,200 BOE/D, Baytex would generate around $63.9M in revenues from light oil and NGLs sales, up $5.8 from $58.1 last quarter.
Revenues from heavy oil are by far the most important factor in Baytex' results. As I noted above, I anticipate that Baytex will see a large increase in revenues from heavy oil sales due to higher prices. In its previous CC, the company noted that it expects to transport nearly 20,000 BBLs/D via rail in Q3. I estimate that Baytex will see realized prices for heavy oil increase around $7 per BBL to about $71.00 per BBL.
Assuming flat production of 42,500 BBLs/D, Baytex would generate revenues of around $277.6M, up $29M from last quarter.
Here is a summary of my estimates for Baytex' revenues:
Natural Gas: $9.1M
Light Oil & NGLs: $63.9M
Heavy Oil: $277.6M
Overall, I estimate that Baytex will generate around $350.6M in revenues for Q3 2013, compared to $322M last quarter. This would be a 8.8% increase. Again note that this does not include revenues from heavy oil blending, which were nearly $20M last quarter.
Using this revenue figure, my estimate points to revenues per BOE of $65.45 in Q3, up 8% from $60.47 per BOE in Q2. If we assume flat operating expenses per BOE of $13.00, transportation expenses of $4.00 per BOE, and royalties expenses per BOE of $12.75 (19.5% of revenues) - these figures are provided in the SEC documents - we come to operating netbacks of $35.70 per BOE. This would be a $3.99 per BOE, or 13%, increase from $31.71 per BOE in Q2.
Below is a table that summarizes my estimate for Baytex' Q3:
****Do note that I did not provided a FFO estimate as this metric tends to vary greatly quarter to quarter.
As a result of higher prices for heavy oil, I expect Baytex to post very strong quarterly results. Besides maybe Suncor, Baytex has the most direct exposure to changes in WCS prices. Given its recent pullback is likely due to the widening of the spread in recent weeks, it appears as if the market has given long-term focused investors an opportunity to buy Baytex on the cheap.
Disclaimer: The opinions in this article are for informational purposes only and should not be construed as a recommendation to buy or sell the stocks mentioned. Please do your own due diligence before making any investment decision.
Disclosure: I am long BTE. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.