NuVista Energy: The Oil Price Is More Important Than The Natural Gas Price

Summary

• NuVista Energy is a Canadian oil and gas producer, taking advantage of the current tailwinds despite historical hedges.
• The cash flows will remain strong, even if oil drops to US $65 and if natural gas drops to US $3.
• While the majority of the oil-equivalent production comes from natural gas sales, the majority of the revenue comes from the sale of condensate.
• Looking for a helping hand in the market? Members of European Small-Cap Ideas get exclusive ideas and guidance to navigate any climate. Learn More »

milehightraveler

Introduction

As explained in my previous articles on NuVista (OTCPK:NUVSF) (TSX:NVA:CA), this Canadian natural gas producer is an interesting story to keep an eye on. Unfortunately the AECO natural gas price is pretty weak these days but NuVista has a history of hedging a portion of its output, and this, in combination with still robust condensate and NGL prices, should ensure the company's cash flows will remain strong.

Data by YCharts

NuVista has a primary listing on the Toronto Stock Exchange where it's trading with NVA as ticker symbol and a market capitalization of just over C$2.3B. With an average daily volume of in excess of 900,000 shares, the TSX listing clearly is the better option to trade in the company's securities. The largest shareholder of NuVista with a stake of in excess of 16% is Paramount Resources (POU:CA) (OTCPK:PRMRF) which I discussed in this recent article.

Despite the hedge losses, the Q2 cash flows were superb

In the second quarter of this year, NuVista saw its production rate slightly decrease to just over 65,000 barrels of oil equivalent per day. About 60% of its oil-equivalent output actually consists of natural gas with just over 30% of the equivalent barrels contributed by the condensate production (which is sold at a price similar to the oil price). The NGLs made up about 10% of the production and thanks to a 154% price increase compared to the second quarter of last year for the NGLs and 72% for the condensate, these "by-products" added quite a bit of value to NuVista's production profile.

NuVista Energy Investor Relations

The combination of a higher production rate (compared to Q2 last year) and the much higher oil and gas prices caused the total revenue to increase by more than 150%, from C$188M to just over C$463M. And as you can see below, although the condensate represented just over 30% of the oil-equivalent output, it did represent about 60% of the total revenue so while NuVista for sure is a natural gas player based on the output, natural gas actually isn't the most important commodity.

NuVista Energy Investor Relations

After deducting the royalties payable on the production of these fossil fuels, the net revenue was approximately C$392M, and after taking the hedges into consideration, the total revenue was C$395M. As you can see below, NuVista realized over C$75M in hedging losses but on other positions it reported an unrealized gain of almost C$79M. And as oil and gas prices have continued to go down, a bunch of those unrealized gains will likely soon be monetized.

NuVista Energy Investor Relations

The total amount of operating expenses was just under C$165M which means NuVista reported a pre-tax income of C$231M and a net income of just under C$178M for an EPS of C$0.78. A very good quarter indeed.

The cash flow result was also pretty strong, but investors are warned the operating cash flow includes the hedging losses but does not include the hedging gains as long as they weren't realized. The C$228M in operating cash flow looks pretty impressive, but there are a few elements to take into consideration here.

NuVista Energy Investor Relations

First of all, there was a deferred income tax of almost C$53M. That's fine for now as NuVista doesn't expect to be taxable this year, but in its Management Discussion & Analysis document, the company clearly mentioned it expects to be cash taxable in 2023.

Secondly, there was a C$29M contribution from changes in the working capital while thirdly, the company also spent C$1.3M on making lease payments. Adjusting the operating cash flow for all these elements would result in an operating cash flow of C$145M. Keep in mind this still includes the approximately C$76M in hedging losses.

The total capex was approximately C$115M (bringing the H1 capex to just under C$235M). It's however important to realize the capex does include a substantial amount of growth investments. As you can see below, NuVista's anticipated sustaining capex is just under C$250M so I will add about 10% and use a sustaining capex of approximately C$70M per quarter, the adjusted operating cash flow in Q2 would have come in at about C$75M or approximately C$0.33 per share.

NuVista Energy Investor Relations

This means that even if you include the C$75.5M in hedging losses, NuVista is generating north of C$1.3 per share in free cash flow. And the image above tells us something else: Even if the oil rice would fall back to just US$65 WTI with NYMEX natural gas at US$3, the operating cash flow would still be approximately C$550-575M resulting in a free cash flow result of C$300M. While you could argue the AECO price is weaker, keep in mind NuVista often hedges the NYMEX/AECO differential as well. On top of that, natural gas is really just a by-product of the condensate production so the oil price will be more important for NuVista than the natural gas price.

Investment thesis

NuVista Energy has a reputation of being a natural gas producer but at the current commodity prices, the oil price is more important as its condensate production is (still) more valuable than the natural gas production.

Thanks to the strong performance in the second quarter, NuVista's net debt (excluding lease liabilities) decreased to just C$280M (although one should also take the C$113M working capital deficit into account here). And although the oil and (non-NYMEX) gas price is getting weaker over the summer, the sensitivity analysis of the cash flows clearly shows that even at US$65 WTI and US$3 natural gas, NuVista is still trading at a free cash flow yield of 12%-13%.

Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such 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.

Comments

[DrT]

Strong week for NuVista. Anyone hear any news?

[River18]

@DrT it had a major upgrade today in the Globe&Mail.
G&M: Monday’s analyst upgrades and downgrades
Desjardins Securities analyst Chris MacCulloch reaffirmed his view of NuVista Energy Ltd. (NVA-T +3.53%) as “one of the best-positioned growth and capital return stories in the Canadian energy sector” after hosting investor meetings in Montreal with chief operating officer Mike Lawford and incoming chief financial officer Ivan Condic last week.
“From growing pains to capital gains, NVA is delivering shareholder value through the drill bit,” he said. “One of the key differentiating factors for NVA in recent years has been top-decline organic production growth rates. Recall that the company was one of the fastest-growing Montney producers prior to the pandemic when it was actively drilling to fill minimum volume commitments (MVCs) with third-party infrastructure providers, some of which were executed in the wake of its transformative acquisition of the Pipestone North asset from Cenovus Energy in 2018. Following the commodity price crash, NVA effectively ceased drilling and completion activity through the remainder of 2020, stockpiling DUC locations while also successfully renegotiating the terms of its MVCs. These decisions ultimately helped the company ride out the storm before the commodity price recovery started taking hold in 2021, upon which it resumed its three-rig program at Pipestone and Wapiti

“Since then, the company has quickly regained operational momentum and is now on pace to deliver 32-per-cent annualized production growth in 2022 and 22 per cent in 2023 based on our forecast for average output of 69,000 boe/d and 84,000 boe/d, respectively. When also considering the impact of share buybacks given that we are currently modelling 50 per cent of FCF toward the NCIB (and a future SIB), NVA’s 2023 PPS growth metric improves to 30 per cent based on strip prices, conservatively assuming our $18 per share target price as the cost basis for buybacks.”

Barring a significant drop in commodity prices, he thinks NuVista will likely “exhaust” its normal course issuer bid by the end of the year and and “accelerate” shareholder returns through significant issuer bid in 2023.

“Our working assumption is that the company will pursue a SIB next year, and it could be material given we are now forecasting a $130-million working capital surplus exiting 2023 at strip prices, even after allocating 50 per cent of FCF to share buybacks,” said Mr. MacCulloch.

He maintained a “buy” rating and $18 target for the company’s shares. The average on the Street is $16.40.

YTD NVA is up +64.37%

[RayJ-Canada]

Thanks for pointing out that POU Paramount Resources is a major shareholder owning 16%.
POU also has stakes in other gassy companies.

[River18]

NUVSF

[anthbutler]

Do you have a position in this company?

[The Investment Doctor]

@anthbutler No. The disclosure can always be found at the bottom of every article.

[MtMath]

Thanks for the analysis. Noteworthy was Nuvista's growth in Condenste production, as Condensate in Alberta often trades at a premium to WTI as it is a critical diluent in blending with oil sands bitumen to meet pipeline viscosity specs without exceeding pipeline RVP specs.

I note most Canadian natural gas weighted stocks trade up and down with the price of WTI, even those where Condensate is not as predominant as it is in Nuvista's case,