Comstock Resources (CRK), Goodrich Petroleum (GDP) and Penn Virginia (PVA) are three former Haynesville/Cotton Valley operators who’ve been buying up acreage in the Eagle Ford to compensate for low natural gas prices. All three of these companies have market caps below one billion and have the potential to be a small/micro-cap growth story for your portfolio. These companies also have debt-to-market caps North of 150% and are trading well off their 52-week highs, meaning they hold potential value if they can navigate their debt issues in the wake of low gas prices. A common strategy among this segment of oil and gas companies has been to roll back their debt maturities to later this decade due to the expectation that natural gas prices will recover. The graph below shows why these companies have been loathe to finance their respective transitions to oil with equity.
Source: Yahoo Finance.
As of market close November 13, 2012, Comstock was trading at $16.19 per share or 81% lower than when it peaked at $86.70 in July, 2008. The company rolled the dice in December, 2011, when it spent $332 million or $7,543 per acre on a 44,000 net acre position in the Southern Delaware Basin. This acquisition certainly made the company oilier by augmenting its 28,000 net acre position in the Eagle Ford (it has subsequently added an additional 13k net in the Delaware); but it also forced the company to issue more debt and CRK more than doubled its debt load to $1.2 billion from $0.5 billion at year-end 2010. Comstock doesn’t like to issue equity and hasn’t in more than eight years, so the debt issuances show the company is sticking to its guns which is bold given its weight to natural gas (16% of Q3’12 production was natural gas/NGLs).
The company is probably done with any major acquisitions/divestitures and is now in full on execution mode. To that end, it has been successful with its 30-day IP rates in the Eagle Ford averaging 517 BOEPD (80% oil) and declining at a shallow rate over a 90-day period to 448 BOEPD. Its acreage is primarily in Atascosa, McMullen and La Salle Counties, with McMullen primarily responsible for its results to date. The Atascosa results aren’t as strong to date but the acreage is good, just not as consistent as McMullen. The Atascosa block to the East is offset by EOG whose 30-day rates in the area are above 450 BOEPD.
Comstock is still working on its efficiency in the Delaware Basin where well costs have run higher than offset operators. The company is confident that the costs will come down as it continues to delineate its acreage. CRK will develop this acreage primarily with vertical wells (company believes 20% is prospective for horizontals) on small spacing units which will give the company more than 900 net well locations. This will be a good oily cash flow piece for Comstock that should provide consistent results and diversification from the Eagle Ford. Moving forward, it plans to spend within cash flow for 2013 with nearly all of its capex devoted to the Eagle Ford Shale and the Delaware Basin.
As of market close November 13, 2012, Goodrich was trading at $8.94 per share or 89% lower than when it peaked at $82.92 in June, 2008. With 38,200 net acres in the Eagle Ford, the company has a larger position than CRK (28,000 net), but the acreage is primarily in Frio and Northern La Salle which hasn’t been developed as much as other areas in the Eagle Ford, thus holds more risk. The company’s early Frio wells have been mediocre to date, but its Burns Ranch lease in La Salle County has already produced 1.7 million barrels of oil on 22 wells.
While GDP has the lowest grade Eagle Ford acreage of these three companies, its 134,000 net acre asset in the Tuscaloosa Marine Shale (TMS) could be a game changer. It's still very early in the TMS, but it’s a good sign for GDP that the big boys are already in the play, with Devon (DVN), Encana (ECA), EOG (EOG) and Sinopec all having substantial acreage positions. The TMS is deeper than the Eagle Ford on average which implies higher well costs, so GDP expects to find a JV partner for its acreage to help with financing and take some risk off its plate. The company hopes to get well costs down to the $10 to $12 million range in the play and the thinking is EURs could be in the 500 to 600 MBOE range. Goodrich is optimistic that the play will be economic, particularly when LLS pricing is considered.
As of market close November 13, 2012, Penn Virginia was trading at $4.61 per share or 94% lower than when it peaked at $71.63 in July, 2008. PVA has the best acreage position in the Eagle Ford of the three companies, with 30,000 net acres in Gonzales and Lavaca Counties. The company has shut-down its East Texas drilling until gas prices recover and will now exclusively develop its Eagle Ford acreage. The early returns look promising as the company’s 30-day IP rates are averaging 525 BOEPD (85% oil) per well, results that have grown its oil cut to 38% of total production during Q3’12. PVA believes it will be able to grow its Eagle Ford position in small chunks at reasonable prices as it develops its acreage. For 2013, the company plans to drill 22 wells and 18 wells in Gonzales and Lavaca Counties, respectively.
After looking at the stock price graph above, it’s easy to see how all of these companies look over-levered on a debt-to-market cap basis, as each has lost more than 80% of its market cap during the last few years. If we look at Interest expense per BOE, which may be a more applicable metric to these companies, GDP and PVA still look over-levered as they’re paying $1.58 and $1.47 per Mcfe, respectively, which is high considering realized prices for natural gas. CRK is paying $0.60 per Mcfe, much lower than the other companies in the peer group and certainly looks like the superior company from a metrics standpoint.
Based on acreage and metrics, I would have expected Comstock to be valued much higher than both GDP and PVA. It’s my opinion that CRK is clearly the best value of this group and a solid small cap for your portfolio. The company plans to spend within cash flow for 2013 (generated $226 million during the first nine-months of 2012) and has $200 million available in its revolver to plug any funding gaps. PVA would be my second choice from this group as its reserves and production are significantly undervalued with respect to GDP despite its ability to generate $190 million in cash flow during the first nine-months of 2012 while GDP only generated $98 million. Cash flow will be important for all of these companies as they don’t have much room to run debt wise and fear the consequences of an equity sale which would be very dilutive at current stock prices.
If you’re an investor in one of these companies the strategy is clear: transition to oil over the near-term to stabilize the company until natural gas prices recover. In the meantime, roll back debt to later this decade at which point natural gas prices have (hopefully) recovered which will imply significant market cap growth. At higher share prices levels, the companies can then issue equity to pay off their debt maturities. I've said CRK is my number one pick from this group and probably the only one I'm buying at current valuations. The other two have potential, but I think they're too risky to add until they get production up to a point where their interest is more manageable.
By. Braden Holt