Apache Continues To Struggle, But Could Rally On Higher Oil Prices

Nov. 02, 2012 11:45 AM ETAPA Corporation (APA)6 Comments
Tim Travis profile picture
Tim Travis

Apache Corp. (NASDAQ:APA) offers one of the most levered bets on higher energy prices, because the company is aggressively growing production, and is still in the early stages of a multi-year expansion. For this reason we profiled the company before and now after posting earnings on November 1st, it is appropriate to update our projections.

On November 1st, Apache reported earnings of $161MM or $0.41 per diluted share, on revenue of $4.1 billion. Adjusted earnings totaled $861MM or $2.16 per share. Adjustments totaled $700MM and include a noncash property right signed in Canada, a change in tax rate on decommissioning expenditures for North Sea oil and gas facilities, a foreign currency fluctuation adjustment and some smaller M&A and transition costs. The noncash after-tax write-down of Apache's Canadian oil and gas properties totaled $390MM, bringing the year-to-date amount to $1.4 billion. These non-cash charges, and production delays have been far too common of late, but I appreciate management taking accountability for the mistakes, and I'm confident that they will resolve the issues sooner rather than later. These Canadian properties were 77% natural gas at year end 2011, so if prices continue to perk up, it is possible that Apache could recoup some of these losses. Cash flow from operations was $2.4 billion for the quarter. Cash margins were $41.54 per BOE in the quarter, which was up 5% sequentially, but down 10% YoY. Debt to total capital is manageable at 27%, and the company ended the quarter with $318MM in cash and total debt of $11.6 billion.

Year-to-date, Apache has generated a record $12.6 billion in revenues, and cash flow from operations is down only 2% YoY, despite natural gas and NGL prices being down 16% and 27%, respectively. Oil prices are up only 2% during the same period. Internationally the story is a little better, with oil price realizations up 10% sequentially and 3% YoY. This global diversification is extremely important right now due to the $20 premium that Brent trades at in comparison to WTI. International natural gas prices were up 3% sequentially and 13% YoY. International regions represent a little over 1/3rd of Apache's global gas production, helping the company cope with the large supply surplus that exists in North America.

In the U.S., Apache is now running 63 rigs, 50% more than at the beginning of the year. 3rd quarter production averaged about 771,000 barrels day. The quarter reflects approximately 25,000 barrels of oil a day in production downtime, which were primarily due to planned turnarounds in the North Sea, and hurricanes in the Gulf of Mexico. Today Apache is producing in excess of 800,000 barrels a day and the company is on track to meet its growth guidance for the year, despite staying within the company's $10 billion exploration and development budget. In the Permian and Central region, Apache averaged combined net production of approximately 184,000 BOE per day during the quarter, which was around 1/4th of the company's worldwide net production. This total represents an increase of 15% over the 2nd quarter averaged net production of 160,000 BOE per day, and a 30% increase over 2011 production of 141,000. The company has 67,000 locations in these 2 regions, so management believes that Apache can deliver double-digit growth for years to come from them.

In the Permian, production averaged nearly 112,000 BOE per day, a 7% increase sequentially. Part of the improvement resulted from additional NGL processing at the Deadwood plant as it became fully operational. The company now holds over 3.7 million gross acres across the attractive Permian Basin, and during the quarter the company averaged 35 rigs in the area, drilling 201 wells of which 26 were horizontal. In the Central region, across nearly 2 million gross acres, production was up 31% from the 2nd quarter to 72,300 BOE per day. Adjusted for the recently acquired Cordillera production, growth was 24% quarter-over-quarter. The growth was driven by a 42% increase in oil production and a 20% increase in gas production. During the quarter, Apache used an average of 24 drilling rigs, 23 of which are horizontal and drilled 40 wells with a staggering 100% success rate.

In the Gulf of Mexico Shelf, quarterly production was down 8% to 90,000 BOE per day. The decline was due to Hurricane Isaac, which halted production in some third-party facilities, but currently the company has 8 rigs in the region and hopes to make up for some of that lost time. The company intends to have 6 operated rigs running during the 4th quarter that will focus on opportunities in Southeastern Texas, Southern Louisiana and Southern Mississippi. Canadian production was steady as the company continues its production shift from gas to liquids. North Sea production was down to 67,800 BOE per day, as turnarounds temporarily dragged on performance. The U.K. Department of Energy and Climate Change announced this month the award of 11 new North Sea licenses to Apache, so it seems likely that the company should be able to pick things up going forward. In Egypt, the company averaged 26 rigs, which averaged net production of 153,000 BOE per day. Production was basically flat in the region. In Argentina, production averaged around 48,000 BOE per day, which was down 3% sequentially.

Moving forward into 2013, Apache forecasts production growth of 6-9%. Apache continues to make progress towards focusing more on liquids and the mix currently stands at about 50/50. At current oil and natural gas prices, I believe the company should earn between $9-$10.50 per share in 2013. Obviously prices could go either way next year depending on a variety of factors, not least China avoiding a harder landing, and U.S. politicians' ability to avoid a Fiscal Cliff, which could hurt GDP growth even from current anemic levels.

If you are bullish oil and natural gas prices, I'd suggest being long Apache because if prices rise, and the company gets out of its own way as far as production issues, we could see EPS of $13 per share at some point in the near future. With upper-end production growth, the company could deserve a P/E multiple greater than 10, making the upside picture quite attractive. If you are less sure about energy prices in the next year, you might look at selling put options. The January 2014 $80 puts are going for $10.40 currently. This means that if Apache expires above $80 you'll make 15% on your maximum risk of $6,960. If the stock closes below $80, your breakeven will be $69.60, putting you in a position to potentially double your money over the next two to three years if prices turnaround from there.

Disclosure: I am long APA. 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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Tim Travis profile picture
Tim Travis is a veteran deep value investor and money manager. Travis has extensive experience in traditional investments such as stocks and bonds, in addition to having a unique methodology of combining options and distressed investing with value investing to generate income, reduce risk, and to add an element of timing. Currently Tim Travis is the founder, Chief Executive Officer, and Chief Investment Officer of T&T Capital Management. T&T Capital Management is a Coto de Caza, California based Registered Investment Advisor that manages accounts for both individual and institutional investors. Travis was born in Laguna Beach, California and became captivated with the value investment philosophy in his early teens through reading books written by Benjamin Graham, and the shareholder letters from Berkshire Hathaway, and the Buffett Partnership L.P. Tim Travis became intrigued by the notion that stocks aren’t just pieces of paper but instead are fractional shares of a business that can be analyzed by comprehensive analysis of the balance sheet, income statement, and statement of cash flows. He majored in Business and Economics at the University of California Santa Barbara, graduating in 2004, and he also had the privilege of studying international economics at the University of Richmond in Florence, Italy. Tim Travis got his feet wet in finance working for both Scottrade and AG Edwards & Sons during his college career. Upon graduation Travis worked at the Vanguard Group in Scottsdale, Arizona. It was there that he learned that most mutual funds underperform their respective indexes, and he became disappointed at the overwhelming diversification in most mutual funds, that really makes most of them function as “closet” index funds. After leaving the Vanguard Group, Travis worked for a small futures and commodities firm in Mission Viejo, California. It was there that Tim developed an adept knowledge of options, particularly the selling of options to take advantage of the higher probabilities involved. It was also during this time in his life that Travis began reading everything he could possibly find on value investing. Some of his role models in the field are Warren Buffett, Martin Whitman, Bruce Berkowitz, Seth Klarman, Peter Lynch, Glenn Greenberg, etc. After working with clients from around the world Travis broke away and started T&T Investment Management L.L.C. At T&T, Travis refined his unique methodology combining value investing, with the selling of options to generate income and reduce risk. T&T experienced explosive growth by partnering with a local commodities firm. After several years Tim Travis realized that without controlling the majority of the company any longer, he didn’t have full control over the company’s strategic direction. Divergent business principles caused Tim Travis to break away and form T&T Capital Management. At TTCM which Tim Travis is the sole owner, he is allowed to offer only the best products and services, at a reasonable price, without conflicts of interest. T&T Capital Management’s goal is build wealth for both individual and institutional investors, and to accomplish these goals Travis as Chief Investment Officer employs his deep value investing techniques. Each account is managed on a day to day, personal basis, and there are no cookie cutter portfolios defined only by one’s age and risk tolerance. Every security is researched and hand selected by Travis and his research team. T&T Capital Management takes pride in first class customer service and research which is regularly communicated to clients for education purposes.

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