Note from John White at Roth Capital - April 11

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dan_s
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Joined: Fri Apr 23, 2010 8:22 am

Note from John White at Roth Capital - April 11

Post by dan_s »

John is an energy sector analysts at Roth Capital. He attends a lot of our luncheons and he covers a lot of the same small-caps that I like. Here are his thoughts from a recent visit with the "Wall Street Gang" in NYC. - Dan

IPAA-OGIS 2019 Conference Takeaways-Report

We just returned from the IPAA-OGIS New York conference. As we expected, attendance was down compared to 2018, we estimate by about 10%, and we estimate 2018 attendance was down about 10% compared to 2017. The mood of the conference was, to put it generously, somber. The lower attendance reflects the continued negative investor sentiment towards the sector, which stems from several sources: 1) volatile crude oil prices, 2) the shrinking share of the E&P sector as a percentage of major equity benchmarks such as the S&P 500 and the Russell 2000 and, 3) investors' negative views of smaller E&P companies outspending cash flow. With frustration abounding, we encountered a wide range of comments from attendees on several subjects.

In the larger companies’ presentations we attended, we heard the phases “financial discipline”, “return of capital”, “dividends and share buybacks” repeatedly, in line with recent demands from investors.

In 1x1s and hallway conversations with the smaller E&P company executives, we heard “how can I grow my business and my PV10% when I am subjected to these yardsticks?”

One E&P CEO told us he sees the major oil companies moving rapidly to dominate the Permian Basin activity and perhaps buying one or more large oil service companies to have a fully integrated upstream business model. Several other professionals, who are seasoned and savvy, in our opinion, have a different view. These professionals told us they see the majors picking up activity in the Permian Basin but such activity being far from dominating. Their reasons were primarily the major oil companies' IRR threshold being too high (composed of high after tax IRR plus historically high LOE) such that the majors would only drill the highest quality locations. Plus, they added, the majors have predominantly conventional reservoir properties and thus are not facing the high decline rates that the shale focused E&P’s face, therefore the majors would not be pressured to embark on massive shale drilling campaigns.

Our investor group lunch was very informative, featuring Netherland Sewell & Associates CEO Scott Rees and COO Danny Simmons for a lengthy Q&A session. After covering numerous subjects, including parent-child well issues, well spacing tests and the nuances of type curves, the discussion became more wide ranging, and addressing what will be the significant changes in the sector over the coming years.

One discussion mentioned that, due to concerns about climate change and the perceived involvement of fossil fuels, the oil and gas sectors may be targeted with a permanent discount on valuation relative to other sectors, such as the tobacco stocks following the massive litigation in the late 1990's. The negative sentiment on the tobacco stocks stemmed from health concerns. After the conference we looked further into the tobacco stock issue. And indeed, we found that CalPERS elected to sell all of its tobacco stocks following this litigation. Further researching of the CalPERS tobacco stock decision we found the divestment decision seemed hasty in retrospect. We found an April 4, 2016 article in The Sacramento Bee that cited a study by Wilshire Associates, which advises CalPERS on its investments, which said CalPERS had forfeited an estimated $3.04 billion in profits since it sold off its tobacco holdings in 2001.

This topic was followed, naturally, by a discussion of how oil and gas companies will fit in a world of investors where ESG rankings are becoming more and more important. ESG refers to how much focus a company places on environmental, social and corporate governance issues, purposes and goals.

The somber mood of the conference was not aided by the April 8th announcement from Laredo Petroleum, Inc. (LPI-NC) that advised LPI had taken measures to reduce combined cash and non-cash general and administrative expenses and capitalized employee costs by approximately 25%. LPI added it is reducing its total employee count by approximately 20%, including a greater than 40% reduction at the Vice President and above level, resulting in annualized savings of approximately $30 million.

We had a 1x1 and hosted a group dinner with Goodrich Petroleum (GDP-Buy) executives Gil Goodrich, Chairman of the Board and Chief Executive Officer and Robert C. Turnham, Jr., President and Chief Operating Officer. This is one small cap name that offers impressive production growth while essentially living within cash flow and a strong balance sheet to boot.

Production in 2018 was an average of 70,500 Mcfe per day, a 112% increase over the average in 2017 production of 33,300 Mcfe per day. Preliminary 2019 production guidance is 140,000 Mcfe per day for an increase of 99%. The preliminary capital spending budget is between $90 million to $100 million and this fits nicely against our 2019 EBITDA figure of $78 million.

And the name is, in our view, a strong relative value within our coverage.. As shown on the attached analysis, GDP trades at 1.7x EV/2019E EBITDA and 2.4x Price/2019E CFPS as compared to the median of 4.5x EV/2019E EBITDA and the median 3.5x Price/2019E CFPS. Balance sheet strength is evidenced at 1.3x 2019E Debt/2019E EBITDA.

John M. White
Managing Director
Senior Research Analyst
ROTH Capital Partners, LLC
Dan Steffens
Energy Prospectus Group
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