Magnolia Oil & Gas: Beat And Raise Meets Buyback And Dividend To Come

Summary

• Magnolia beat Revenue, EBITDA, and EPS estimates on better than expected volumes and prices.
• Management increased production guidance, bought back more shares than expected, reaffirmed the prior quarterly buyback thoughts, and again pointed to their initial dividend in 3Q21.
• Estimates will rise in the wake of the quarter.
• Magnolia is inexpensive in light of the strong balance sheet, their high margins, the "under-spend by design" approach to capital spending, the buyback, and the coming dividend.

Photo by anatoliy_gleb/iStock via Getty Images

This is a Z4 Research pre-call note after Magnolia Oil & Gas's (NYSE:MGY) 1Q21 earnings.

The 1Q21 Numbers:

The quarter was marked by better than expected production due to strong well results at Giddings and despite Winter Storm Uri that hampered activity and volumes in Texas during the quarter. Given the rapid increase in commodity prices during the quarter and generally slower pace of activity for names like this during the bookends of most years, capex was only 26% of EBITDAX for the quarter vs. a normal expectation of 50 to 60% for the full year.

This led to outsized free cash flow of $100 mm for the quarter as the higher production, up 3% sequentially despite low activity, met good cost control, realized oil prices at 98% of WTI which is a modest improvement over recent quarters and NGL prices at 35% of WTI (which coincidentally align with our full year modeling those 20% or so of annual volumes).

Guidance: No change in spending thoughts as a percent of EBITDAX but this is iterative and management edged up its thoughts on 2021 volumes. 2021 spending is still expected to be 50% to 60% of EBITDAX:

• For the year they had planned to run one rig at Giddings while completing DUCs at Karnes. Given the stability we are seeing in the oil strip (not to really mention better NGL and natural gas fundamentals) it makes sense for them to look to further prosecute Giddings AND to begin to think about replenishing the Karnes drilled but uncompleted locations that will be tapped this year. As such, they are adding a 2nd rig in 2H21 that will split time between the two plays. Management noted it sees spending "somewhat less than $300 mm". That's a very Magnolia kind of comment and we note the Street was already anticipating spending of $284 mm so we don't see the comment as any sort of negative surprise to the sellside.
• For 2021, volumes are now expected to grow 6 to 9%. This is above prior thinking of 5 to 8% with a mid point of 66.5 MBOEpd. The Street is at 65.5 MBOEpd now. Most names we track are in maintenance mode and not showing growth this year with growth being an outcome and free cash flow being the new priority. At MGY, it's the same but spending below your cash flow by way of discipline is not new here and as such, we get the added bonus of under-spend meets modest growth.
• Lastly, they initiated volume guidance for 2Q21 guidance of 66 MBOEpd which is also slightly above the Street's current 65 MBOEpd.

Highlights:

Giddings Update: (56% of total volumes)

• Record production for a second quarter on the development area drilling program with total volumes up 22% sequentially and more importantly oil volumes up 32% over 4Q20. Results in the quarter were deemed as "better than expected". Again. We'd like to see an update of the previously noted newer wells here.

Karnes Update: (44% of total volumes)

• Production off 14% sequentially on the lack of operated activity.
• They commenced completion DUCs again late in the first quarter as per prior plan.
• We'd like to hear comments here regarding non-operated activity given the increased rig count in the area.

Other Items:

• Share repurchases:
  • $88 mm in share repurchases during the quarter which will result in shares being down 4% over year-end levels for the 2Q21 average to 245 mm shares (A and B).
  • They have another 12.6 mm shares authorized.
  • They had previously said expect to see "at least" 1% of shares repurchased each quarter this year and they reiterated that in the press release despite having taken in 4% of their shares YTD.
• Cash Dividend Update: They remain on track to pay a semi-annual dividend beginning in 3Q21.
• Favorite Quote Watch: "Our disciplined approach toward allocating capital to our assets is expected to generate moderate growth and strong profit margins this year, while generating meaningful free cash flow." This sums up the approach management takes quarter after quarter quite well.

Balance Sheet: In great shape

• Net debt to 1Q21 annualized EBITDAX of 0.4x vs 0.5x last quarter.
• The revolver remains untapped and liquidity is a very unnecessarily high $628 mm.

Nutshell: Strong Quarter

While MGY is up 11% since the time of the 4Q20 call, we do note the Street has greatly increased estimates to come closer to our own numbers for 2021. In fact, since that time, Street EBITDA is up a whopping 47% and 24% for 2021 and 2022 respectively. The 2021 Street EBITDA figure of $609 mm now falls between our $50 oil (base case) and $60 oil (stretch base) estimates as it should though we see upside to Street from here.

The Z4 $40, $50, and $60 EBITDAX levels shown in the table above are unrevised for the new production guidance and will be adjusted following the call. Our sense is the modest increase in volumes and a few other tweaks we see as necessary will reduce the multiples at the $50 and $60 based levels by about 0.2x. As such, a 4x multiple here given the strong balance sheet, a bit of actual volume growth (rare these days), oil high margins, planned underspend, along with a campaign of share reduction and an initial dividend on the horizon seems like a good value to us.

And as always, their oil production remains unhedged. They don't like debt and they don't need oil hedges. They do like the idea of dividends and this is now just around the corner. MGY remains the 2nd largest oily upstream position in the portfolio and our 4th largest position overall.

Analyst’s Disclosure: I am/we are long MGY. 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.