Is Penn West A Good Investment?

May. 5.14 | About: Penn West (PWE)

Summary

The company has been able to increase its financial flexibility due to the turnaround plan.

The turnaround plan will allow the company to increase its operational efficiency by focusing on core assets and getting rid of non-core assets.

Increased production and competition in the North American market can be a problem for the company.

Penn West Petroleum (NYSE:PWE) engages in on-shore oil and natural gas exploration and production activities. The company is focused on western Canada, encompassing approximately five million acres. The company is mainly engaged in acquiring, exploring, and developing petroleum and natural gas properties and related assets. The turnaround plan of the company is going well and the market is realizing the efforts of the company - the stock is up over 12% year-to-date despite the overall market going through a slowdown.

Penn West Asset Overview

Penn West generates the majority of its revenues from the production and sale of oil and NGLs. The company has excelled in the exploration and production with a primary area of focus in the Western Canadian region. The image below shows the revenue mix over the last three years.

Source: SEC Filings

Oil (both light and heavy) and natural gas liquids account for more than 86% of the company's revenues. The composition of the oil and natural gas liquids have been around 86% in total revenue over the last three years - there was a spike in 2012; however, that was mainly due to the natural gas revenues falling drastically. The production levels declined in the last year primarily due to non-core property dispositions in the same period. The image below shows the production levels over the last two years.

Source: SEC Filings

Moreover, the company has allocated a capital expenditures budget of $900 million for the current year which is concentrated on drilling 210 wells with 175 of them in the oil rich areas in the Cardium and Viking plays, the most resource rich areas in the region. These areas have strong growth potential for light oil reserve asset base, adding substantial power to the operational productivity of the company.

Penn West Turnaround Plan: Climax to the Growth Story

Penn West is one of the biggest oil and natural gas exploration and production companies in Canada. The company's massive operational ecosystem requires a lot of capital spending in order to pursue the future growth. Therefore, the management decided to introduce a turnaround plan in the last year, which includes restructuring the giant exploration and development company into a productive entity focusing only on the core assets. The company disposed of assets worth $661 million and decreased a considerable amount of debt from the balance sheet. The turnaround plan is having a dual positive impact on the company: first, it is allowing the company to get rid of the non-core assets and increase its operational efficiency. Second, it is allowing the company to enhance its balance sheet and increase the financial flexibility. After the turnaround plan, Penn West will be in a better position to grow by focusing on its core high-growth assets.

Potential Risk

As mentioned earlier in this article, Penn West generates the majority of its revenues from Light oil and NGLs. The market for the light oil is intensifying as the domestic production increases. The U.S. has a ban on oil exports to any country other than Canada. As a result, most of the North American production remains in the region - this will have an impact on the prices and competition will increase. The Canadian producers will have to look for the foreign markets in order to gain a better price. Penn West's peers such as Pengrowth Energy (NYSE:PGH), Baytex Energy (NYSE:BTE) and Enerplus (NYSE:ERF) are also shifting their focus away from light oil and natural gas.

Earnings Overview

The recent earnings release was well received by the market as the stock rose 5% after the event. Despite the weak production output and less than impressive financial performance of the company, the stock showed strong movement. The company declared a production shortfall as average production was 110,800 BOE in the first quarter down from 142,800 BOE in the same period last year. Also, with the start of the year, the company previously announced the sale of non-core assets in the central and southwestern areas of Alberta for total proceeds of $175 million. Penn West claimed that it has sold more than 20% of its well bores, one third of which are non-producing. This has also reduced the operating costs which will provide more cash to the company to spend on future growth projects.

The company reported a net loss of $96 million for the first quarter compared to $97 million in the same period last year, while the company managed to increase its cash flows, a measure of its ability to fund future development, to $279 million from $267 million. Moreover, the reduced debt base obtained in the restructuring plan along with increased capital expenditures will allow the company to grow over the next few quarters.

Conclusion

Penn West has been one of the better performers in the oil and gas sector, mainly due to the progress on the turnaround plan of the company and successful completion of its wells. The company is improving operationally as well as financially due to the turnaround plan and it will be in a better shape as the company continues progress on its turnaround efforts. At the moment, the company looks well positioned to grow and it will prove to be a solid investment.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. IAEResearch is not a registered investment advisor or broker/dealer. This article was written by an analyst at IAEResearch and represents his/her personal opinion about the companies mentioned in the article. The article is for informational purposes only and it should not be taken as an investment advice. Investors are encouraged to conduct their own due diligence before making an investment decision. I am not receiving any compensation (other than from Seeking Alpha) for this article, and have no relationship with the companies mentioned in the article.