Analysis of SM Energy Q1 results

[Petroleum economist]

SM energy had a good Q1. Production decreased but was above expectation. The balance sheet is strong, the profitability good and shareholder returns solid.

Production
• As expected, Q1 production - due to winter weather - declined from 153.5 K BoE/d (Q4 2023) to 145.1 K BoE/d. The 145.1 K BoE/d was above the 142 K BoE/d indicated by SM in mid Feb.
• Production in Q2 will pick up. SM gave an outlook of 155-157 K BoE/d. I expect 158-159 K BoE/d, as SM energy tends to be conservative in their outlooks.
• SM increased the 2024 production outlook with 1% to 156-164K BoE/d.
• Based on 2023 proven reserves (605 M BoE) and a very high RRR (2.22 - period 2021-2023), production beyond 2024 can grow with 3-5% per year.
• Q1 production was liquid dominated (oil = 44%, NGL =17.0%). Gas was 39%.
• Q1 composition (44/17/39) is not in line with the reserves (38/20/42). Over time NGL and gas content should slightly increase and oil content should slightly decline.

Balance sheet
• The SM balance sheet improved in Q1.
• Solvency increased from an already good 56.7% (2023) to an even better 57.8%.
• With 45-50% of the free cash flow directed towards the balance sheet, solvency late 2024 should be > 60%.
• The debt/EBITDA ratio late 2024 should be very healthy < 0.80.
• The high solvency and the low debt/EBITDA ratio allow generous shareholder returns.

Profitability
• SM is a very profitable company.
• Q1 adjusted profit (eps of $ 1.41) was above the analyst average forecast of $ 1.28.
• SM has hedged 26% of its oil production, thus benefitting from the higher oil prices.
• SM has hedged 24% of its gas production. SM is thus feeling some pain of the lower gas prices, although gas revenues are only 12% of the total
• 2024-unit costs are an industry average $ 28.11/BoE, making SM reasonably robust under lower oil prices.
• For 2024, using WTI = $ 80-85/bbl, I expect an eps to $ 6.75-7.35 and a medium low PE of 6.5-7.1. The eps is inclusive cash hedging results but ignores non-cash hedging results.
• With growing production, the eps in 2025/2026 can increase.

Shareholder returns
• SM intends to return 50-55% of the 2024 free cash flow to shareholders.
• SM paid a fixed interim dividend of $ 0.18,but paid no variable dividends.
• Share buyback in Q1 was limited to 712 K shares. This was due to the low free cash flow ($ 68 M) . Buybacks should pick up in the rest of 2024 with higher production and increasing free cash flows.
• I expect the total share buyback in 2024 to come close to 2023 (6.9 M shares).
• Dividends and buybacks combined should give shareholders a solid 2024 return of 5.5-6.0%.
• In 2025 and beyond - with further strengthening of the balance sheet and growing production – shareholder returns can increase.

Conclusion
SM energy is an attractive investment.

In my oil and gas companies ranking, SM ranks 10th out of 72 companies. The high ranking of SM is due the strong balance sheet and free cash flow, combined with decent reserves, good profitability, medium unit costs and solid shareholder returns.

If you want to know more on the ranking system or the results, than please drop me a private message with your email address. Otherwise just send EPG your e-mail address. I will send you a set of PowerPoint slides with details and the latest ranking.