Analysts at Zacks Equity Research are reiterating a neutral recommendation on Apache (APA), noting a belief that Apache's future growth will depend on acquisitions. Given that many of Apache's most recently begun projects are not scheduled for production or export until 2014 or later, I think that Apache's growth is not as dependent on major acquisitions as the Zacks' recommendation indicates. One of the biggest future revenue areas for Apache could be liquid natural gas on the Asian markets, for which Apache is positioning itself on the coasts of British Columbia and Australia. In addition, many of Apache's U.S. positions are liquids rich and far from peak production, meaning that Apache has room for growth in oil as well.
Kitimat Project Stumbles, But Still Strong
Apache's Kitimat project, which is expected to move its first cargo in 2017, is a liquified natural gas project located in an industrial area of coastal British Columbia. Initial costs for the project are projected at $15 billion. The project site contains an estimated 19 trillion cubic feet (Tcf) of natural gas. In late June, the project was once again delayed as Apache looks for Asian buyers.
Apache's Kitimat partnership with EOG Resources (EOG) and Encana (ECA) was overtaken earlier this month by the international partnership led by Royal Dutch Shell (RDS.A), when Shell announced the placement of TransCanada (TRP) as its pipeline builder in an estimated $4 billion project. Though Shell still needs to acquire approval from various Canadian regulatory agencies to move forward, the solidification of its plans makes its proposals to these agencies stronger.
Shell also has an advantage with its export plans; since the partners in its Kitimat venture represent Asian countries where high liquid natural gas demand is already leading to an eightfold price premium over current U.S. markets, it is not expected that Shell will face the same contract breakdowns that are currently plaguing Apache. Apache recently indicated that the earliest first export date for its Kitimat project will not be until 2017, a full year behind the initial estimate in 2016, due to trouble lining up the long term contracts needed to make its project viable.
This is unfortunate considering that Apache just made an enormous new shale gas discovery in the Liard Basin, with an estimated 48 tcf of reserves. The discovery is important not only because of high recoverable and production numbers, but because it is easy to drill: Apache reports that it is producing up to 21 mcf per day from a single well with just six fractures, compared to the 20 fracture standard in the nearby Horn River Basin. Though Apache is already selling gas from this new find on the market, prices in Alberta are wavering below the level of profitability, meaning that Apache may need Kitimat to make this find truly profitable.
Regardless, Apache is indicating that it intends to keep its liquid natural gas prices linked to the price of oil through long-term fixed-price contracts. According to Apache Senior Vice President, Gas Monetization Janine J. McArdle, without such price guarantees gas investment would be discouraged in favor of oil. With Apache's recent trouble lining up any substantial contracts for Kitimat's future export capacity, in my opinion it could be that the Asian contacts with whom Apache is working are looking for a price support more favorable to the market than an index to oil.
Several of Apache's Australian offshore natural gas projects are scheduled for first production in 2014, which should provide a total estimated 35.8 mboe per day net to Apache. The massive Wheatstone LNG project, in which Apache has a 13% working interest, is scheduled to send out first cargo in 2016, which could provide a better way for Apache to get its Australian natural gas production to Asia's booming markets. Chevron (CVX) is the operator at Wheatstone, and since 80% of the plants capacity is already contracted to Japan, expansion might be on the horizon.
Domestic Production Steadily Increasing
Apache is the largest shallow water producer in the Gulf of Mexico, and is about to become larger. The firm was the successful bidder on 61 shelf blocks in an auction recently held by the U.S. Bureau of Ocean Energy Management, and acquired a further 29 blocks in deep water through its wholly owned subsidiary, Apache Deepwater LLC. The deepwater bids included bids with some of Apache's partners, including Noble Energy (NBL) and Ecopetrol S.A. ADR (EC). According to Apache's Chairman and CEO G. Steven Farris, "the Gulf of Mexico is integral to Apache's long-term growth."
Despite the great potential in its Gulf of Mexico activities, Apache is indicating that U.S. onshore positions will be the major growth driver for the firm in the years ahead. By 2016, the company estimates that 41% of its liquids growth will come from U.S. onshore, compared to 12% each for its U.S. offshore and Canadian divisions.
Much of this will come from its production on the Permian, where Apache holds a number two spot by most measures. It is behind leader Pioneer Natural Resources (PXD) in number of rigs, and behind Occidental Petroleum (OXY) in net acres, wells operated, and net production. Oxy's net acres, 3 million, and net production, 200 mboe per day, are both double that of Apache, at 1.6 million net acres and 100 mboe per day net production. The Permian Basin is, however, Oxy's flagship play, whereas Apache has multiple areas of focus. Either of these companies could solidify a lead by further acquisitions, which could be from Chesapeake Energy's (CHK) Permian assets, all of which that company is holding out for sale at an ask of $5 billion.
Apache is trading around $87 per share, giving it a price to book of 1.2 and a forward price to earnings of 6.8. This is just above its three-year support level, which it actually broke through earlier this month before quickly recovering. Apache experienced a 76.4% growth in earnings per share over the past three years on revenue growth of 10.9% for the same period. As Apache approaches final investment decision on Kitimat, it is working on more than enough other projects to ensure a strong growth trend, and in my opinion Kitimat's potential is just an extra incentive in what is already a compelling package at $87. I strongly urge investors to buy Apache now.