Oil & Gas
We went back through our database to determine 2008 breakeven
prices (10% rate of return) based on EnerCom's decline curve
analysis of the Woodford, Fayetteville, Haynesville and Marcellus
Shales. All data points reference the second slide below.
We found the Woodford, Fayetteville, Haynesville and Marcellus
Shales had respective breakeven points of $6.45 per Mcf, $5.39 per
Mcf, $3.62 per Mcf and $3.42 per Mcf based on the data collected in
2008. During 2008, Henry Hub natural gas prices were trading up
near $9.00 per Mcf and companies were realizing prices near $8.00
per Mcf: enter the birth of the resource play and companies driving
down costs to make the largest rates of return possible.
What we see as we move closer to the first shoulder months 2012
is Henry Hub and realized natural gas prices falling as inventories
click to enlarge
Never let it be said that the ingenuity of the oil worker cannot
improve a play's economics.
The advent and application of new seismic, drilling and
completion technologies gives the operator in these gas-rich
resource plays an opportunity to generate acceptable rates of
return on invested capital.
Case in point is how E&P companies operating in the
Woodford, Fayetteville, Haynesville and Marcellus regions have
shrunk the disparity between the 2008 numbers above and today's
breakeven points of $3.93 per Mcf, $4.19 per Mcf, $3.51 per Mcf,
and $2.88 per Mcf, respectively.
Even though the Henry Hub spot price has dropped below even the
Marcellus breakeven price of $2.88 per Mcf, companies' hedges are
protecting CAPEX programs as companies are realizing
better-than-cash prices from their daily production. In any
commodity business, the low-cost operator tends to lead the way.
Let's examine the Marcellus for example. Low-cost operators such as
Range Resources (
), Cabot Oil & Gas (
) and EQT Corp. (
) are working to make and keep the Marcellus an economic play. Bear
in mind that there has been a shift change in the market place as
E&P operators have moved as a thundering herd from dry gas to
crude oil and liquids-rich production. Given the current commodity
price environment, it is natural for the natural gas producers to
make changes to continue to provide a return on investment to its
shareholders. Range, Cabot and EQT are no different, except that
these companies chose to focus on cost control rather than changing
their asset base to incorporate more oil. As of December 31, 2011,
natural gas as a percentage of total proved reserves for Range,
Cabot and EQT are 79%, 96% and 100%, respectively.
In the current resource play parlance, the next well is usually
the company's best well. Looking forward using the NYMEX strip
price, and as natural gas hedges continue to roll off, we take
interest in asking the question "at what point do some of the
largest natural gas operators in the Marcellus (lowest breakeven
point in 2011) generate a 10% rate of return." At year-end 2011, we
note that Range Resources, Cabot Oil & Gas, and EQT have 3-Year
Finding and Development Costs of $0.84 per Mcf, $1.30 per Mcf and
$1.13 per Mcf, respectively.
Are low F&D costs important? Yes. Are they the only thing to
measure the economic vitality of a company? Not necessarily.
F&D costs are part of EnerCom's proprietary Five Factor Model
(5FM). We also like to look at what a company is able to do with
the drilling investment (F&D costs) in relationship to Capital
Efficiency (another part of the 5FM) and Asset Intensity.
Capital Efficiency is the measurement of cash flow generated for
every dollar of investment and is calculated as (trailing twelve
month EBITDA / trailing twelve month production) / 3-Year F&D
cost per Mcfe. For the period ended December 31, 2012, RRC, COG and
EQT's Capital Efficiency ratios were: 417%, 267% and 453%,
respectively. Said another way, each company generates $4.17, $2.67
and $4.53, respectively, for every $1.00 of investment. Bear in
mind that this ratio measures the entire company's cash generation
capability not just a single basin.
Asset Intensity is an indicator of how much of a company's
annual cash flows that are needed to be reinvested to keep
production flat. It is also an indicator of a company's future
growth potential. The metric is calculated as trailing twelve month
production multiplied by 3-Year F&D cost all divided by
trailing twelve month cash flow from operations. For Range (25%),
Cabot (48%), and EQT (24%) each company needs to invest less than
50% of its annual cash flow to keep production flat. We note that
these are not the only companies with favorable asset intensity
metrics but we use these examples to make a point that natural gas
prices can be dealt with in certain portions of the commodity cycle
provided a company has the assets, cost structure, people,
technologies, balance sheet and bull-headedness to make it work. As
Ben Franklin was quoted to say: "Energy and persistence conquer all
I have no positions in any stocks mentioned, and no plans to
initiate any positions within the next 72 hours.
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