EOG Resources (EOG) released its first quarter earnings on May 8, reporting earnings of $1.20 per share on net income of $324 million, beating analyst estimates of $1.16 per share. EOG attributed the strong earnings to improvements in well productivity and its "early-mover advantage in prolific new domestic crude oil shale plays", according to Mark G. Papa, Chairman and CEO of EOG. EOG raised its 2012 oil production growth target to 33% based on these results, from a previous guidance of 30% oil production growth for the year.
EOG continues to decrease its production and reliance on natural gas in the face of unprofitably low domestic gas prices, with its gas production in the first quarter down 9% compared to the first quarter of 2011. This should be reassuring to investors as natural gas prices continue to show weakness, with spot prices at the Henry Hub 50% below year-ago levels and natural gas storage approaching record highs.
Keeping costs down - creatively
EOG is keeping its well costs substantially lower than its competitors' costs in the Eagle Ford Shale, attributing the difference to its ability to produce its own frac sand. Other domestic producers are following EOG's example, such as Pioneer Natural Resources (PXD). Pioneer announced in March of this year that it was acquiring a sand mine and production facility in Brady, Texas from Carmeuse Holding S.A., at a cost of about $297 million. Despite the acquisition cost, Pioneer estimates that the acquisition will save it between $65 million and $70 million per year. EOG averaged the lifetime savings per well provided by its own sand production, and estimates the savings at $500 million per well. As EOG anticipates it will have 600 wells operational in 2012, the savings will be substantial for the company, as over the coming years increasing demand for frac sand will push prices of this commodity up.
In its first quarter earnings report, EOG indicated that it had no dry hole costs for the first quarter despite expansion in its four major plays. By comparison, Anadarko Petroleum (APC) reported dry hole expenses of $73 million in the first quarter, primarily in its deepwater activities (which EOG does not have). EOG's corporate transparency is shown by the fact that it regularly publishes its dry hole costs under successful efforts accounting.
Setting up for another successful year in 2012
According to its first quarter earnings presentation, EOG believes that the Eagle Ford shale is its best crude oil asset in North America, with an improving outlook. It reports that recent wells are exceeding 3,000 barrels of oil per day, plus production of natural gas liquids and dry gas. Spurred by this productivity, EOG is downspacing its wells by up to half, tightening fields from 130 acres per well to as low as 65 acres per well. With 647,000 net acres on the Eagle Ford, EOG anticipates room to drill 3,200 more wells in addition to its 375 existing wells on the play. I believe that this gives EOG substantially more drilling inventory than it can expect to use within the next five years, especially given its other holdings. With this in mind, I would not be surprised if EOG began to explore partnerships on its leased acreage that placed greater working interests to partners in exchange for reasonable revenue sharing, in order to better increase its production and maintain its leases in active status.
According to the Railroad Commission of Texas, which has jurisdiction over most drilling activities in the state, production of oil soared to 30.4 million barrels in 2011, from just 4.3 million barrels in 2010 and 308,000 in 2009. Drilling permits issued increased on the same curve, from 94 issued in 2009 to 1,010 in 2010 to 2,826 in 2011. On the Railroad Commission's annual list of largest oil producers for 2011, EOG ranks at number four, behind Apache (APA) at number three and Occidental Permian Ltd, a subsidiary of Occidental Petroleum (OXY), at number one. This is a big jump for EOG, as it ranked fourteenth on the list in 2010.
EOG is trading around $97 per share, giving it a price to book of 2.1 reasonable to its growth prospects, and a forward price to earnings of 15.5. This is high for its year-over-year return potential, but similar to competitor Pioneer, which is trading around $96 per share with a price to book of 2.1 and a forward price to earnings of 13.0. By comparison, Anadarko is trading around $63 per share, with a price to book of 1.7 and a forward price to earnings of 12.8. Apache is trading around $81 per share, with a price to book of 1.2 and a forward price to earnings of 6.2. Oxy is trading around $81, with a price to book of 1.7 and a forward price to earnings of 8.6.
EOG anticipates total production growth of 7% in 2012; 92% of EOG's revenues, or $2.5 billion, are derived from its holdings in the United States. This is actually a higher percentage of revenues than a year prior, when 86% or $1.6 billion of EOG's revenues came from U.S. activities. EOG's revenues in all of its international activities have decreased year over year. This is due in part to the fact that its international holdings are gas rich, especially its holdings in Trinidad and Tobago, where it continues production of natural gas to satisfy existing contracts. EOG also reduced gas production in Canada, from 143 mmcfd in the first quarter of 2011 down to 105 mmcfd in the first quarter of 2012.
EOG's tight focus on liquids and its bottom line, as evidenced by its areas of activity and willingness to explore non-traditional expansion like frac sand mining and production, show that EOG is prepared to navigate a changing energy landscape under the leadership of Chairman of the Board and CEO Mark Papa. I recommend picking up EOG for solid dividends and growth potential.