The exciting potential of the Permian Basin hasn't done much for Laredo Petroleum (NYSE:LPI) shareholders this year. Lots of other oil exploration firms in the basin like Pioneer Natural Resources (NYSE:PXD) and Diamondback Energy (NASDAQ:FANG) have seen prospects soar due to significant reserve expansions in the oil-focused area. Laredo isn't lacking for that potential though the company continues to struggle with issues delaying the plans to rapidly expand production.
Laredo Petroleum follows other oil exploration firms that have gone into full production mode in the Permian with a ton of options leading to substantial growth opportunities. In general, Laredo is shifting towards horizontal drilling combined with multi-well pad drilling and a focus on multiple stacked laterals. Unfortunately though, Laredo continues to disappoint investors, as growth isn't materializing fast enough. The stock dropped over 8% following Q214 earnings, but were the numbers that disappointing to dump the stock?
On a lot of key metrics outside pure growth rates, Laredo Petroleum trades favorably to Diamondback Energy to name one of many hot stocks in the basin.
Disappointing Q214 Results
The oil industry has a couple of different ways of focusing on results to value a company. The first is via the well results and the second are the earnings results. In the case of Laredo, well results were solid but the company came up short on most financial metrics due to delays in completing wells. The company specifically had issues with pressure pumping delays that caused them to push back vertical well completions. The ending results were a rather large scaling back of production guidance by Q4 of this year.
In total, the company reported earnings of $0.14 that fell below the $0.18 expected by analysts. Revenue hit $183 million, but didn't reach the estimate of nearly $190 million. Most importantly revenue only grew a meager 3% over the prior year results with production up a decent 13%. Adjusted EBITDA of $118 million actually declined from the prior year.
Guidance is where the numbers were meaningfully disappointing. At the time of the Q114 earnings report, Laredo forecasts production in Q414 of 3.75 MMboe at the mid-point. The updated forecast only three months later is 3.35 MMboe for the year-end quarter.
In total, the company produced 28,653 boe/d during Q214 and forecasts that growing to around 35,000 during Q314 to over 37,000 boe/d by Q4. Of course, the previous guidance was for more around 41,000 boe/d at that point. Clearly the increased production growth will eventually hit the top line numbers especially with the well results remaining solid.
The real key to a production and exploration firm is the ability to drill production wells. Typically any infrastructure and oilfield services delays can be overcome in due time, but a company can't bypass unproductive wells. In the case of Laredo, the company is making great progress on ramping up production activities with a shift towards multi-pad wells, long-laterals, and multi-stacked laterals. All of these concepts are far from new in the industry and if anything one might argue that Laredo is late to the game.
Investors should focus on the following well results for the quarter:
- Completed 19 horizontal wells during the quarter with a mean 30-day average initial production (IP) rate of 702 Boe/d.
- Completed the first pad to two extended long-lateral wells in the Upper Wolfcamp and Cline zones with 30-day average IP rates of 1,155 Boe/d and 1,463 Boe/d, respectively.
- Completed the first four-stacked lateral pad, targeting the Upper, Middle and Lower Wolfcamp and Cline zones
Considering Laredo only completed seven horizontal wells during Q114, the company made substantial progress moving to 19 completed wells in the last quarter. Unfortunately, the lack of oilfield services personnel caused a stack up in the vertical wells. Further, the oil exploration firm exited the quarter with 14 horizontal wells drilled and in various stages of turning into production. The company expects to add 20 wells to production in Q3 to provide a slight increase from Q2 levels and continue the momentum after Q1.
Fellow Permian Basin producer Diamondback Energy produced 32% sequential production growth to reach 17.8 Mboe/d. Considering it isn't having the same start-up problems, the market has rewarded the smaller producer with an incredibly larger enterprise value, or EV, at $4.85 billion despite some recent well results similar to Laredo.
Diamondback Energy recently placed two Upton County wells on production with 30 day flowing IP rates of 745 boe/d at 83% oil. Another well in Midland County had initial 24-hour IP rates of 859 boe/d with 91% oil.
Overall Resource Potential
The Permian acreage owned by Laredo Petroleum only sits at 145,423 acres, but due to the substantial layers of pay discussed below the company has substantial resource potential. The company had proved reserves at the end of 2013 of 204 MMboe with an identified resource potential of over 1.6 billion boe. In total, the company estimates the resource potential equates to 3.4 billion boe or slightly over $1 per boe based on the current enterprise value.
In fact, the company recently added 9,741 net acres in the Midland Basin mostly focused on Reagan County that adds 280 gross horizontal drilling locations and an estimate net resource potential of 142 MMboe. The purchase price was $203 million.
Conversely, Diamondback Energy only had pro-forma reserves of 70.5 MMboe. The current valuation places Diamondback Energy at an EV/1P Reserves of around $68 boe compared to only around $21 boe for Laredo Petroleum.
The main reason the company has such a substantial resource potential on a rather small acreage position is the stacked layers or zones of hydrocarbons. In total, the company estimates that due to the ability to drill in the Upper, Middle, and Lower Wolfcamp, Cline and potentially a few other layers that the net de-risked acres is equivalent to roughly 350,000 acres in a normal field. Eventually, Laredo expects to delineate those four primary zones listed below to equate to the equivalent of 580,000 total acres.
The following slide highlights how the drilling works with four laterals drilled from the same well pad to cover the different zones. It also shows that the company has already had commercial success in the different zones.
The below chart highlights the weakness in Laredo's stock over the last two year. It has underperformed both the high flying IPO in Diamondback Energy and the $30 billion Permian giant in Pioneer Natural Resources.
LPI data by YCharts
With an experienced management team led by CEO Randy Foutch that has successfully built and sold several prior firms, it is only a matter of time before Laredo starts hitting full stride. Considering the total resource potential, the company trades at an attractive valuation that will quickly be unlocked with growth adored by the market. Most importantly, the company has several catalysts from stacked laterals to multi-well pad drilling to finally boost production growth.
Investors should use the weakness in the stock to buy one of the only Permian producers trading flat over the last two years.
Disclosure: The author is long LPI. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article. The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion or consult a financial advisor. Investing includes risks, including loss of principal.