By now I’m sure you have all read my prior article, "E&P Investors: Time to Pore Over Annual Disclosures." Undoubtedly, many of you have dutifully noted the data that you consider most important in researching and analyzing E&P companies, and have compared data points between various companies to home in on those firms that are most interesting to you. Right?
For those of you who have not done so, and/or for those who want another set of figures to use in these comparisons, I am providing this summary article that sets out capex and production guidance for 2019, with percentage increases or decreases from 2018. In addition, I am including certain metrics commonly used in valuation, including debt and equity figures, as well as Enterprise Value (“EV”) metrics computed based on trailing ’18 EBITDA.
There are approximately 80 companies whose data is reflected in the chart below. Although I have grouped all firms that have provided guidance together. Long-time readers of my articles will be able to distinguish between the various groups I have created to simplify my efforts; (1) BOTB = Bottom of the Barrel Club; (2) MOTR = Middle of the Road Club; (3) TOP = Tier One Producer Club; and (4) X11 = Ex-Chapter 11 companies. I have also included companies outside of those clubs just to expand the data points, and I have included selected integrated major or international E&P companies for sizing and later discussion.
Before getting into the data, please be aware that I am not a financial advisor and I am not making specific buy/sell recommendations on any of the companies in the chart. I have obtained the data from sources I consider reliable, including company press releases, SEC filings and, in the case of the debt and equity figures, from Seeking Alpha tables. I consider this effort a high-level screen, so am not too concerned about errors or inconsistencies, and of course, some companies may have changed since year-end, when the guidance figures were given (i.e., in mergers such as Chesapeake (CHK)/WildHorse, Cimarex (XEC)/Resolute, etc.). Readers are advised to do their own research and analysis before making an investment decision based on their own investing philosophy, time frame, etc.
I have inserted a column that details the stock market price gain or loss for all of the companies included in the chart. The current price action is still an attempted recovery from the oil prices in effect last summer, and the “Stock % Change since 9/30/18” reflects how far off prices remain even with an improvement so far in ’19. Most of the ’19 gains came prior to January 8, showing a mostly sideways movement overall since then.
In the column noted above, and in several other columns, I have highlighted “good” performance in green and “bad” performance in red to show winners and losers based on the various criteria. For example, in the stock price performance column, only 3 companies, Cabot Oil & Gas (COG), Goodrich Petroleum (GDP) and Pioneer Natural Resources (PXD), had gains from 9/30/18, while the top 10 performers also included ConocoPhillips (COP), Anadarko Petroleum (APC), Noble Energy (NBL), EQT Corp. (EQT), PDC Energy (PDCE), and Talos Energy (TALO). Likewise, on the loss side of the ledger, Alta Mesa Resources (AMR), Approach Resources (AREX), Roan Resources (ROAN), Halcon Resources (HK), Denbury Resources (DNR), Chaparral Energy (CHAP), Laredo Petroleum (LPI), Ultra Petroleum (UPL), Extraction Oil & Gas (XOG) and Antero Resources (AR) “led the pack”... all with losses of more than 50%.
I should point out that I have sorted the companies in descending order of EV to emphasize the impact of bigger companies on the data. The equity Market Value, Debt and EV columns give a better indication of overall size and capital structure than does Market Value alone, as will be discussed later. However, I know that some of the first questions readers may have, in light of the recent Chevron (CVX)/Anadarko merger, is what companies are comparable to Anadarko? I will discuss some M&A implications later on, but as you can see, APC’s total EV of $50 billion, with 2/3rd equity and 1/3rd debt, was what CVX was willing to take on; capital structure matters a great deal on both sides of a merger transaction!
[Note: Better viewing can be enabled by opening the chart in a new tab, then zooming to a desired viewing magnification.]
Not surprisingly, larger companies such as EOG Resources (EOG), Concho Resources (CXO) and Cimarex Energy, as well as some of the bigger companies mentioned earlier, show up with the lowest debt and most conservative capital structures of the independent E&Ps. Also, because of the fact that a Chapter 11 bankruptcy has converted substantial debt to equity, companies like Riviera Resources (OTCQX:RVRA), Bonanza Creek (BCEI) and Sandridge Energy (SD) also show up. Higher-leveraged companies like UPL, AMR, AREX, HK and AR are joined by California Resources (CRC), Chesapeake pre-WRD and Rosehill Resources (ROSE). Even higher-leveraged companies like EP Energy (EPE), Legacy Reserves (LGCY) and Sanchez Energy (OTCPK:SNEC) from the group below the main group (because they had not issued full guidance for ’19), beyond the two companies that have filed for bankruptcy in ’19, Jones Energy and Vanguard Natural Resources, illustrate the ongoing financial distress that is impacting many small-to mid-sized E&P companies.
The EV/Adjusted EBITDA (trailing 12 months) column illustrates high and low multiples, not necessarily good or bad performance. I tend to focus on value-oriented stocks, so a high multiple of Adjusted EBITDA is often a caution sign that a company is either overvalued or has too much growth already built into the stock price. Low multiples, on the other hand, can represent value or, in the worst case, financial distress. In my articles, I have tried to stress using metrics other than EBITDA, since it does not include interest expense, which can be substantial in the case of distressed companies. Still, no debt with a low multiple may be a sign of undervaluation.
It is also not surprising to me that companies like Hess Corp. (HES), Diamondback Energy (FANG) and Devon Energy (DVN) join several of the other larger companies in the list of high-multiple stocks. They are the stocks favored by institutional investors (traditionally), and they have adequate debt runways to pursue their growth opportunities on existing acreage. On the low-multiple end, Southwestern Energy Company (SWN), Gulfport Energy Corp. (GPOR), Amplify Energy Corp. (OTCQX:AMPY) and Harvest Oil & Gas Corp. (OTCQX:HRST) join in. Several other companies might be classified as “semi-low” multiple firms, as the compression in small- to mid-sized companies is evident (i.e., in the range of 4X-6X).
Even though the capex and production numbers come into such focus with investors and analysts, I must also caution readers to go beyond the reported numbers to see what is driving changes. In particular, when managements use terms like “adjusted for sales,” that is usually code for “our production will be down this year,” or “our production numbers will look lower than they would if you excluded properties we are selling.” Notice that similar disclaimers for production increases due to acquisitions are rarely, if ever, given. Distressed companies may not even have the flexibility to re-invest sales proceeds if debt repayments are required.
The capex figures were taken from company disclosures, but that does not mean they are consistent from company to company. Some companies included acquisitions, others may or may not have included such things as acreage costs, capitalized G&A and interest, etc. Other than acquisition/sale activity, such variances should be minor. Still, companies like Northern Oil and Gas (NOG) really stick out, with high capex in ‘18 (from acquisitions) translating into substantial production growth in ’19; the real key will be production in ’20 for them, as well as the capex required to deliver that production. Other companies like FANG and ECA show similar effects, while companies that are growing through development include TALO, HK, BCEI and GDP.
Forget what you hear about investors clamoring for “capital discipline” or setting capex within operating cash flow limits; companies are not rewarded for it, and indeed, may be punished in the market for it. If companies reduce their capex, production decreases inevitably follow, and those same investors who sought reduced capex rail about production and cash flow decreases. It is much easier for them to sell such stocks and move on to companies that have better capex and/or production profiles (been there, done that...). Capital discipline is one reason I expect to see more bankruptcies in coming months, because corporate costs like G&A and interest often cannot be supported by distressed firms with lower production.
Neither capex nor production figures reflect economics, which, of course, should be the underlying driver of activity. Most companies that are reducing capex still claim that their costs are lower and are a prime reason for that decrease; time will tell, and that result is dependent on the trajectory of product prices as well. On the production side, my biggest caution to readers is to read very carefully whether the production increase claimed by a company is based on ’18 volumes or 4Q ’18 volumes. The difference can be illustrated by the following example: Company A had quarterly production of 1 mm, 1.3 mm, 1.7 mm and 2 mm in ’18. Its ’19 guidance is for growth of 20%. Is that growth based on the yearly average of 1.5 mm (i.e., growing to 1.8 mm), or is that growth based on the 4Q average of 2 mm (growing to 2.4 mm as an exit rate for ‘19)? The answer can vary widely, and the data can be presented in many ways, depending on management’s desires. Some may want the % increases to look larger and will use the yearly numbers, others may feel that investors and analysts want to know comparisons to the most recent (i.e., quarterly) figures.
The figures I obtained are not far off from institutional analyst estimates I have seen of capex decreases of 7-10% and production increases of 5-10%, so that is a good enough start for me. Note, however, that these figures do not include the majors/ IOCs, even though the stats are there. Those entities have far-flung production licenses and multiple lines of business, so drawing comparisons is not easy. However, both CVX and Exxon (XOM) have indicated increased levels of capex and production are anticipated in ’19 and expected over the next 5 years at a minimum. In addition, private company and P/E portfolio company data is not included and is also substantial.
Where does the above discussion leave us? Well, I am left with a “meh” reaction to most of the guidance issued so far. Capex down for an extended period may show up in production declines later, and the 1Q is largely shaping up as flat compared to 4Q ’18, from what I can tell. My biggest fear, and biggest caution to readers, is to watch to see how companies react to 1Q results and possibly revised guidance because of the “sell the news” reaction of investors to lowered expectations. I also am concerned that OPEC+ cuts will be eliminated during the second half of the year and/or will be insufficient to offset US production growth if prices increase. As a reminder, quarterly oil prices were roughly $63, $68, $69 and $59 respectively, with 1Q ’19 at $55 and the current 12-month strip of $64.60. Just as importantly for some companies, quarterly natural gas prices were $3.00, $2.80, $2.90 and $3.70, respectively, with 1Q ’19 at $3.15 and a 12-month strip of $2.70. A caution, not a recommendation or position.
Since the CVX/APC merger came down while I was preparing this article, more or less, I decided to add a discussion about likely M&A activity and possible targets. Fortunately, I had just the flowchart to illustrate the many combinations and permutations of such activity, as shown below:
Looking at the EV column of the chart, you will undoubtedly see all of the companies that have drawn speculation as the next Permian target after APC, which actually has quite extensive holdings in the DJ Basin, midstream and international arenas in addition to the Permian. Most M&A activity is opportunity-driven, meaning that an acquiror has to identify a willing acquire... and that knocks out most companies that get speculated about. Sure, PXD is an attractive target, but with its debt structure and asset base, is the company likely to consider a merger at a time it considers to be more of a low point than a high point? Same with EOG, CXO, Continental Resources (CLR), FANG and NBL. Those are companies that have been active acquirors of assets and companies already, and their respective managements have shown no inclination to sell; in fact, more the latter.
Most of those companies definitely believe that consolidation in the Permian is long overdue... and that other companies should sell out to or merge with them, leaving their management in place. Again, not so easy to do, or at least not easy to do when oil prices are bouncing around every quarter. How do they realize a premium stock price when they don’t know a reliable product price? I don’t see it, but it may happen; more likely are deals with private companies like Endeavor or Crown Rock, which are backed by P/E companies always on the alert for the exits. Companies like LPI, Earthstone Energy (ESTE) and Matador Resources Company (MTDR), serial “builders, then sellers”, might be candidates but are much lower in the E&P food chain, as the chart shows. (I changed the font of all “Permian” companies to red to make them easier to identify; of course, other companies may have multiple core areas.) High debt is a definite no-no for companies that want to preserve liquidity for development, so keeping an eye on that drives me to companies like SM Energy (SM), Jagged Peak Energy (JAG), Centennial Resource Development (CDEV), all of which have their own, unique issues (like large acreage positions, both a pro and con).
After writing my first article on Seeking Alpha back in 2015 about whether the NBL/Rosetta merger would unleash a flood or a trickle, I have to say I still see a healthy market but not a flood. Deals like RSP Permian, Energen, Resolute, Silver Hill, Ajax, Clayton Williams, Athlon and others tell me that the Permian has already been very active, and it is likely to remain so, but the urgency for picking the next winners is missing, at least for me.
Conference schedules are now complete, and 1Q earnings releases begin this week, so estimates for ’19 should begin coming into more focus. I expect to see some changes in guidance due to prices, if only to talk about what might happen if oil prices stay “high” or natural gas prices stay “low.” Once 1Q results have been released, I will update this article for actual numbers and any guidance changes. Hopefully, this article has enough detail to suffice in helping to form lists of stocks of interest, and hopefully to convey data about companies that may not have been on the radar up to this point.
In the meantime, for those who may not be familiar with my prior Club articles, the most recent articles are linked below:
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.