Just a few weeks into 2013 and Petrobakken's stock has lost more than 9% so far. This makes it the top losing stock in the dividend paying intermediate category - and January is not over yet. The company did not miss its exit guidance for 2012 to deserve this punishment but its 2013 guidance came in below expectations. The reality of high decline rates is now at the forefront, the average production rate for December 2012 won't be showing up any-time soon in 2013.
Petrobakken (PBKEF - PBN.TO) achieved its 2012 exit rate guidance with production averaging 53,200 boed in December. For 2013, PBN is guiding for an annual average production of 46,000-48,000 boed with exit production at 49,000-52,000 bped (85% oil). That's a 10% increase in the annual average production and a 5% decrease on an exit to exit basis.
The 2013 budget of $675 million (down 31% from 2012 levels) includes $480 million earmarked for drilling. That's half a billion dollars spent to increase average production by 10% or about 5,000 boed. The corporate decline rate of 39% for 2013 is hefty and might partially explain the weakening share price.
Welcome to the wonderful world of unconventional oil production!
However, I suspect there might be other variables behind this weakness. In December of 2012, Petrobakken announced it has acquired an equity interest in Arcan Resources (ARNBF - ARN.V). This was followed by another equity position in junior oil producer TriOil Resources (TRIAF - TOL.V).
The Arcan acquisition amounts to a 17% share of the company. Basically, Petrobakken is building a position in one of the next resource plays that will drive production growth in the future - The Swan Hills oil play.
The TriOil acquisition also amounts to 17.3% of the company. TOL is a perfect strategic fit to PBN as both companies have complementary assets in the Lochend Cardium play and have partnered on wells and infrastructure on joint land holdings. TriOil currently produces over 3,600 boe/d (70% oil) and would add more than 100 net Cardium drilling locations to PetroBakken's inventory in the event of a takeover.
TriOil's takeover by Petrobakken is only a matter of time, it will happen eventually - ie don't go buying TriOil shares at market price. PBN's balance sheet is not that healthy right now making an-all cash transaction highly unlikely - it would have to include an equity portion. I believe Petrobakken's acquisitions are defensive in nature particularly in TriOil's case. They make it more difficult for potential suitors to acquire these companies.
Let's take a look at Petrobakken's balance sheet for 2013 using the following scenario:
• Average annual production of 47,000 boed (85% oil)
• $81/ barrel of oil Edmonton Par - per company guidance
• $3.30 /mcf AECO - slightly lower than company guidance at $3.50/mcf
The price of oil assumes a 9% discount to $90 WTI oil. Edmonton Par is currently trading above $85 per barrel but there are no guarantees this will be the average realized price for 2013. The price of natural gas has little impact on cash flow on account of its weighting.
The scenario above results in an estimated 133% payout ratio which translates into a deficit of ~$215M this year. The DRIP component last quoted at 63% participation rate at the end of Q3 brings the ratio down to ~115%. This brings down the deficit slightly under $100 million which is an amount the company can easily absorb on its credit line. On the other hand, it results in dilution as PBN recycles 60% of the distributions into new shares.
Remember that these are ballpark numbers, among other things we don't know what the latest participation rate for the DRIP is. We also don't know if any non-core assets will be sold - the amount could improve the balance sheet prompting the market to revalue the stock. You can run your own analysis using on oilandgas-analysis.com.
The debt to cash flow ratio estimate remains high at 3.1x. That of course is based on an estimated debt of $2B - a very conservative number since at the end of Q3, PBN reported $1.8B in debt. The debt to CF ratio rises to 3.4x if the company's debt load has risen to $2.2B. The latest stock purchases in TOL and ARN must have cost over $40M easily.
The company is financially stretched and that makes a lot of investors uncomfortable with this level of debt. Buying any of these juniors would simply increase the debt resulting in additional risk to the distribution. Petrobakken has 14,000 barrels of oil hedged at a $79/bbl floor. This helps the company mitigate oil price volatility on 30% of its production. That however does not eliminate the risk of lower oil prices on the remaining 70% of production.
Clearly, a substantial drop in the price of oil will hurt the balance sheet and the stock as the market becomes uncomfortable with a rising payout ratio.
Petrobakken asset base
Petrobakken assembled a drilling inventory in excess of 2,200 locations. The Bakken in Saskatchewan and the Cardium in Alberta make up the lion's share of the inventory. Some might argue that the company is undervalued given the quality of its assets. This is true, but let's not forget that almost every other producer in western Canada is also undervalued.
Finally, the Canadian energy sector clearly remains out of favor as pipeline constraints and oil price differentials make the headlines. These headwinds will not last forever; this is why Petrobakken is looking towards the future by actively preparing M&A targets. In the near term, Petrobakken might turn out to be a value trap in 2013. But as long as the dividend is flowing, at least those who get caught will be paid to wait.
By. Michael Massaad