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SM Energy: Still A Risky Contrarian Investment

Jun. 11, 2020 5:11 AM ETSM Energy Company (SM)3 Comments
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DT Analysis


  • The current oil price crash from the coronavirus has left many investors in the oil & gas industry seeking contrarian investment opportunities to capitalize on any recovery.
  • Whilst SM Energy is likely to see share price gains if operating conditions continue recovering, it is still a risky option at best.
  • This primarily stems from the company's poor history of negative free cash flow that I believe is unlikely to change in the medium to long term, despite recent strong short-term performance.
  • The risks are further amplified by its high leverage and poor liquidity that leaves the company reliant on its credit facility that was recently reduced in size.
  • When all of these factors are combined, I believe that a Neutral rating is appropriate.


One of the hardest-hit industries during the recent coronavirus crisis was oil & gas, which saw demand plummeting to an extent never seen at any other point in history. This, obviously, was a nightmare scenario for many of the small companies, such as SM Energy (NYSE:SM), which I have previously warned was quite vulnerable. Whilst on the surface the company's desirable results for the first quarter of 2020 may make this look premature, when digging deeper it is still a risky contrarian investment for investors looking to capitalize on any recovery.

Cash Flows and Debt

Thankfully, the graphs largely speak for themselves, with the first two graphs included below summarizing the company's cash flows and debt from the last quarter and previous seven years.

SM Energy cash flows

SM Energy notes 1

(Image Source: Author)

The first aspect that I desire from a potential contrarian investment is evidence that their operations are fundamentally viable outside of a downturn. If they were not fundamentally viable when operating conditions were broadly normal, then their ability to survive a downturn becomes questionable. It also significantly diminishes their overall attractiveness, as I believe that the best contrarian investments are in companies that are desirable in the long term, which means they have a higher intrinsic value and thus not simply relying on the greater fool theory. Although different investors will likely have different ways to ascertain this aspect, my preference for an established company is to review their free cash flow performance across time throughout different operating conditions.

If an established company has displayed no ability to generate free cash flow, then I deem them unlikely to be fundamentally viable. This is especially applicable for an oil & gas company, since continuous negative free cash flow will eventually bankrupt them due to the capital intensity and field decline of their industry. When compiling my previous analysis, it was

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I am no longer active, as I am taking a hiatus from finance to pursue business ventures in other sectors.  I hope that my analysis was helpful to investors across the years, thank you.

Analyst’s 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.

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Comments (3)

SavingGrace profile picture
What the author fails to realize is that the cost of drilling between 7 and 12k feet with an average of 7mm dollars per well has been absorbed. The company has also pulled up stakes in Wyoming and North Dakota to concentrate activity entirely in Texas including, the oil rich midland basin. In 2018 they had 1156 net producing wells online and expanded much more since. This company founded in 1908 is ready to shine like it never has before. Based on my assumptions, $SM is a safe play with great and rewarding expectations. sm-energy.com/...
this zombie will burn capital for a few more years
The company has committed to living within cashflow in the future, like most of the industry. It has great assets in the Permian. After the recent debt exchange, maturities over the next few years could all be paid off by the largely untapped revolver if necessary. The strong 2021 natgas strip will help.
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