Sweet 16 Update - September 1

[dan_s]

The Sweet 16 Main Spreadsheet has been posted to the EPG website. You can download it directly from the home page each weekend.

Tab 1:

> The "Elite Eight" are highlighted in yellow. They are the larger and more well known companies that should draw more Wall Street "love" if the money managers decide to move more capital into this over-sold sector.

> The market-cap value of each company is shown in Column E: From ESTE with a market-cap of $536 million to EOG with a market-cap of $68.5 Billion

> Net book value of each company is in Column H: Note that AR, ESTE, GPOR and RRC have market-caps below book value. Because the accounting rules for upstream companies are super conservative, the market-cap of a profitable upstream oil & gas company should never drop below book value. Upstream companies are required to "mark-to-market" their assets ("impairment") if market conditions change, primarily a big drop in commodity prices. For companies that use the "Full Cost Method" of accounting, it is called a "Ceiling Test". AR, GPOR and RRC are all "gassers" that generate most of their revenues from the sale of natural gas and NGLs. Since gas and NGL prices have firmed up AND these companies are all profitable, there is no way that they should be trading below book value unless their accountants are not doing their jobs. They all have strong production and proven reserve growth locked in.

> In the middle of the spreadsheet you can see what I have forecast for "Adjusted Earnings" per share for each company in Q3, Q4 and for 2019. "Adjusted Earnings" are what should be compared to First Call's EPS estimates. Most of the Sweet 16 beat my EPS estimates for Q2 and I am expecting the same for Q3.

> In Column T you can see my operating cash flow per share forecast for each company. Note that as a group, the Sweet 16 is trading for 6.28X operating CFPS. That is a low multiple for a group of "Growth Companies" with this much running room. In addition to double digit production growth, they have a lot of valuable leasehold. There are a lot of Prime Takeover Targets in this group.

Tab 2:
Click on Tab 2 at the bottom of the spreadsheet to see my current valuation for the common stock of each company (Column J). You can compare it to First Call's price target for each company. Just remember that the First Call price targets are the average of all of the valuations submitted by analysts to Reuters and a lot of them are old. A lot of the Reuters' numbers include reports dated prior to the Q2 results and don't include up-to-date production guidance. This is especially true for the smaller companies.

My "Fair Value Estimates" are based on my forecast/valuation models for each company. You can find them under the Sweet 16 tab on the EPG website.

My valuations are based on each company's actual results for 2017 and 1H2018 and my forecasts for 2H2018 and 2019. My forecasts are based on each company's production guidance for future periods. I am assuming $65/bbl WTI for all future periods, taking into account regional price differencials and each company's hedges. It is a bit more "tricky" for natural gas and NGL prices, but I try to be conservative. You can see the realized oil, gas and NGL prices (net of hedge settlements) that I am using for each company at the bottom of their forecast models.

Permian Basin natural gas prices have been "killed" because supply exceeds pipeline takeaway capacity out West. Higher NGL prices have helped. All three of the "gassers" (AR, GPOR and RRC) have no exposure to Permian Basin gas prices. Permian Basin oil prices are down because of a big regional price differential, but most of the Sweet 16 have at least some of their oil production protected by hedges and/or marketing contracts. Companies that can get their oil to the Gulf Coast (especially those in the Eagle Ford) are getting a premium to WTI prices. EOG Resources (EOG) is #1 in the Eagle Ford.

Cimarex Energy (XEC) is the worst preforming stock, down 30.8% YTD. I will be working on it today and I will be sending out an updated profile in the next few days. Despite having exposure to the low West Texas gas prices, Cimarex is one of the most profitable companies in the Sweet 16 and they have double digit production growth locked in. Most of the company's revenues are from liquid sales and it has a lot of upside in the Mid-Continent area (SCOOP / STACK / Woodford Shale). Cash flow from operations and proceeds from the recent asset sale in Ward County, Texas to Callon Petroleum (CPE) more than covers their 2018 capex budget ($1.6 to $1.7 Billion). Net of the production sold to CPE, production will still be up 13% to 14% this year.

IMO Cimarex and Newfield Exploration (NFX), which is down 13.5% YTD, both need to take a hard look at their investor relations efforts.

I have followed all of the companies in the Sweet 16 for a lot of years. Some of them for over 18 years (EPG was founded in 2001).

We are now 2/3rds of the way through 2018 and commodity prices have moved quite a bit higher than they were a year ago. Q3 and Q4 results should be very good for this group. The "Wall Street Herd" can change direction quickly and there are definitely some near-term catalysts that should draw more attention to the sector (Iran, tightening supply & demand for oil, winter heating season for gas prices).

Enjoy the Labor Day holiday, but keep an eye on the Tropical weather patterns. There are a few storms heading our way.

The Cruise Director and I will be taking a few days off. I will be back on Wednesday, September 5.

[dan_s]

Cimarex Energy (XEC) closed at $84.48 on Friday, August 31. First Call's price target is $120.46.

There are 25 analysts' reports (submitted to Reuters) that are included in the First Call price target, but only 4 of them are dated after Cimarex reported Q2 results on August 7th. This is why I tell you to take First Call estimates "with a grain of salt".

Of the four current reports, two rate it a HOLD with price targets of $100 and $110. The other two rate it a BUY with price targets of $129 and $175 (Stifel Nicolaus). The most current report is from Gabriele Sorbara at Williams Capital (one of the most conservative analyst covering energy) dated 8/20/2018 and he rates it a BUY with a price target of $129.

My valuation for XEC is $150/share.

Read: https://finance.yahoo.com/news/beaten-d ... 00783.html