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Vanguard Natural Resources, LLC (NASDAQ:VNR) reported significant increase in revenues and production, w/ EBITDA up 3% sequentially and 1.09-x distribution coverage ratio (DCR) to its almost 9% yielding payout. Although the numbers missed analyst estimates, the coverage ratio is comforting, declining just barely for the 9-month period (from 1.06-x to 1.05-x) since 2012. Operationally, company has improved its metrics, reducing LOE and G&A expenses. On the call, management expressed optimism regarding acquisition opportunities, stating prudent focus on "growth in our distributable cash flow not just growth in production or reserves" - with lower expected bid competition given the number of acquisitions closed by rivals to date. Subsequently, with no incremental revenue growth drivers, management does not expect to increase dividend further until 2014.

Analysis:

"No thrills, no chills, no spills". Vanguard Natural Resources delivered another solid quarter of revenue generation, operational excellence and no unexpected negative fall-outs in its drilling activities. Being an MLP, majority of free cash flow available at quarter end is distributed to unit holders, yielding a roughly 9% annually, comfortably protected by company's elaborate hedging portfolio. This hedged-MLP structure results in downside protection at the expense of limited growth opportunities, making company valuation range bound. This behavior has continued year-over-year with share prices slowly creeping up as profitable acquisition allow for cash distribution growth. With that in mind fluctuations within the range are mostly driven by macro-economic events, oil and gas demand, as well as risk profile and resulting perceptions of fair value on P/E basis.

Brief Summary:

  • Q3 2013: EPS $0.29 vs $0.32 est., Sales $121.51 mil vs $128 mil est.
  • Est 2013: EBITDA $320-325 mil, DCR at 1.05-x - guidance unchanged from Q2 2013
  • Adjusted EBITDA up 25% YoY and 3% QoQ, DCR down to 1.09-x from 1.12-x YoY.
  • Oil, Gas and NGL production split at 24%, 64% and 12% respectively from 30%, 61% and 9% in Q3 2012
  • Inclusive of hedges, oil prices declined sequentially, with NGL and natural gas showing signs of improvement.

Investment Thesis:

Assuming the above thesis is correct, it makes perfect sense to acquire shares as prices trend down to the lower range - roughly the 200-day SMA, currently at around $27.00 - while reducing (or protecting) exposure in the upper range around $29.00.

Given management's commentary during the call around fourth quarter acquisitions, the opportunity to acquire shares on discount may just be around the corner. Company in general finances purchases with credit, issuing equity shortly after to repay outstanding borrowings. These issued shares usually come at a discount, not surprisingly to insure market absorption and given the resulting dilution. The positive is that shares are likely to rebound, especially if expected positive impact will drive increases to shareholders.

I believe shares are currently reaching the upper boundary of the volatility range and would consider actively protecting long positions, most reasonably with ATM or OTM short calls.

Source: Vanguard Natural Resources Q3: Stable And Consistent