Talos Energy (TALO) Valuation Update - Mar 1

[dan_s]

TALO was trading at $16.32 when I posted this. Down big today because Q4 results were somewhat disappointing, but not terrible.

TALO is in our Small-Cap Growth Portfolio.

I am lowering my current valuation by $4.50 to $29.00 per share, which compares to First Call's price target of $28.60. TALO has very little coverage, so it may take several days before any of the Wall Street Gang adjusts their price targets.

Talos had a good year in 2022, using free cash flow to pay off a lot of debt. The balances sheet is now in good shape.
2022 EPS of $4.63 and operating cash flow of $7.84.
My forecast for 2023 is net income of $283.2 million ($2.23/share) and operating cash flow of $985.8 million ($7.76/share)
PV10 Net Asset Value as of 12-31-2022 based on average prices of $85/bbl for WTI oil and $3.50/mcf for natural gas is $35.07/share.

Big news is the closing of the EnVen Acquisition on 2-13-2023, which should push production up to ~79,000 Boepd in Q2 (from 56,600 Boepd in Q4)
Talos recently announced two deep water wells (Lime Rock and Venice) that will be tied into sales within 12 months, adding ~10,000 Boepd net to Talos' working interest.

Talos is the only offshore Gulf of Mexico upstream company in our three model portfolio.
> Offshore does have more hurricane risk.
> Talos has significant exploration upside for a company of this size in deep water areas.
> There is nothing in my valuation for their new Carbon Capture & Sequestration (CCS) business. A joint venture with Chevron. See notes below.
> Puma West (operated by Bp) may be a significant deepwater project, but it will take more confirmation wells and lots of engineering work before we can know what it means to Talos.
> The EnVen deal added a lot of "running room" that should become clear in Q2 2023.
> Talos is profitable and free cash flow positive. If you want some exposure to the Gulf of Mexico, I think it is a good choice.
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Notes from the press release:

Talos President and Chief Executive Officer Timothy S. Duncan commented: "2022 was full of milestones for Talos. We used our meaningful free cash flow generation to pay our revolver borrowings to zero at year-end. We also ended the year with a leverage ratio of 0.7x – well below our goal of 1.0x or below – and ended the year with record liquidity. In late 2022 we announced and closed in February 2023 a major acquisition that not only adds significant scale and asset diversity to our portfolio but is also very beneficial to Talos's shareholders. In our CCS business, we completed a first-of-its-kind CO2 storage transaction with Chevron early in the year, welcoming their considerable experience into our Bayou Bend project in southeast Texas."

Duncan continued: "We have a very positive outlook as we look forward to a busy 2023. Over the last four months, and pro-forma for our recent transaction, we have drilled six successful wells from our open water subsea and platform rig programs. We are prioritizing the acceleration to first oil from these discoveries in our 2023 capital program, with the most impactful production growth in 2024. We believe our remaining 2023 projects will help us achieve our target production growth rate while lowering our reinvestment rate over time, providing ample capital allocation opportunities. With Talos Low Carbon Solutions, we continue to add strategic U.S. Gulf Coast leasehold for CO2 storage to build the largest carbon sequestration portfolio in the United States, while advancing our efforts to build additional strategic partnerships and to attract captured CO2 volumes. Today we announced exactly that - an expansion of our partnership with Chevron in Southeast Texas with an additional major leasehold acquisition, bringing our total storage capacity in the region to over 1 billion tons, one of the largest CCS project sites in the United States.

"With respect to capital allocation, our priority continues to be generating free cash flow and lowering our total quantum of debt post-closing of our recent acquisition while also investing in our key catalysts. That includes the continuation of CCS growth and potential Upstream M&A opportunities. However, we are also very focused on building out a capital return model. That could include Talos participating in a share buyback program associated with private equity shareholder liquidity events that could occur over the next several years, helping to alleviate the short-term technical impact to Talos's shareholder base. Our team is committed to building a diverse and sustainable energy company and we could not be more excited to see what the next twelve months bring."

RECENT DEVELOPMENTS AND OPERATIONS UPDATE

EnVen Acquisition: On February 13, 2023, Talos closed the previously announced acquisition of EnVen. The strategic transaction expands Talos's Gulf of Mexico operations with high margin, oil-weighted assets and significant operated infrastructure. In 2022, EnVen's estimated production was between 22.7 – 23.0 MBoe/d. Talos's full year 2023 operational and financial guidance includes 10.5 months of contributions from the acquired assets.

Southeast Texas CCS: Talos has elected to participate alongside Chevron in an onshore CO2 sequestration leasehold in southeast Texas. Combined with the offshore Bayou Bend CCS pore space, the total acreage equates to a gross storage resource of more than 1 billion tons of CO2 to serve multiple industrial markets within the region.

Coastal Bend CCS: In February 2023, Talos Low Carbon Solutions, Howard Energy Partners ("Howard"), the Port of Corpus Christi Authority ("POCCA") and the Texas A&M University System were selected for a $9.0 million grant from the U.S. Department of Energy's Carbon Storage Assurance Facility Enterprise ("CarbonSAFE") program. Grant funding will directly reimburse a majority of upcoming technical and economic feasibility costs including a stratigraphic evaluation well, FEED studies and other key project workstreams. Award of the grant is subject to final negotiation with the Department of Energy. Additionally, Talos and Howard entered into a definitive lease agreement with the POCCA to lease the initial 13,000 acres for the sequestration storage location.

Drilling & Completions Updates:
Throughout the fourth quarter of 2022 and early 2023 Talos had six successful drilling projects, inclusive of the Company's operated open water and platform rig programs, non-operated projects and projects contributed by the Company's recent EnVen acquisition. The discoveries will significantly impact production growth over the next 18 months.

Lime Rock and Venice: The two prospects successfully discovered commercial quantities of oil and natural gas. Talos expects combined gross production rates of approximately 15-20 MBoe/d from expected combined gross recoverable resources of 20-30 MMBoe. Both wells will be subsea tie-backs to the Talos owned and operated Ram Powell facility and are expected online by the first quarter of 2024. Talos owns a 60% working interest in both wells.

Pompano: The Mount Hunter development well successfully discovered commercial quantities of oil and natural gas during the first quarter of 2023. Talos expects gross production rates of approximately 2-4 MBoe/d from expected gross recoverable resources of 5-6 MMBoe. First production is expected by the second quarter of 2023. Talos owns a 100% working interest.

Lobster: In the Lobster platform, the A-26 ST well found pay in multiple field horizons and will achieve first production in the first quarter. Talos owns a 67% working interest. Lobster was part of the recently acquired EnVen portfolio.

Gunflint: The Gunflint #1-ST well successfully discovered commercial quantities of oil and gas. The well will be completed and tied back with first oil expected by mid-year 2023. Talos holds a 9.6% working interest.

Spruance: The Spruance West discovery well was drilled in the fourth quarter of 2022 and was part of the recently acquired EnVen portfolio. The well achieved an initial gross production rate of over 3.0 MBoe/d. Talos owns a 13.5% working interest.

Puma West: The Puma West appraisal well ("PW #2") was drilled to a total depth of 25,995 feet followed by a sidetrack ("PW #2ST") which was drilled geologically down-dip to a total depth of 27,650 feet (collectively the "appraisal wells"). The appraisal wells encountered hydrocarbons in multiple sands. However, additional hydrocarbons from a subsequent well or sidetrack would likely be necessary to consider moving forward with a development. The PW #2 wellbore has been temporarily suspended with utility to allow for future potential sidetrack opportunities. The participating parties will begin incorporating the data acquired from the appraisal wells to determine the best path forward. Talos owns a 25% working interest with Chevron (25%) and bp (50% and Operator).

[KGardiner]

Dan,
How much of the market's disappointment in Talos is because they only looked at the headline earnings and did not take into account the massive debt payoff?
Thanks
Kevin Gardiner

[dan_s]

Probably a lot of the selling was an over-reaction to the lower than expected "reported" net income for Q4. A lot of expenses related to the EnVen Acquisition were booked in Q4. 2022 was a very good year for Talos and they are going to have much higher production (+24% YOY) in 2023.

Talos is profitable and going to generate a lot of operating cash flow this year. Per my forecast: $985.8 million in 2023 compared to $647.6 million in 2022.

[KGardiner]

Thanks Dan,
Looking forward to studying the Forecast Model.
Kevin

[dan_s]

Note from Roth MKM on 3-2-2023

Talos Energy, Inc., Buy, $26.00 PT, Target Price Change, $2,256.34 Mkt. Cap.(mil)
We rate Talos Energy (TALO) a Buy based on its improving balance sheet, high oil cut, low production declines, below average valuation, and
material potential upside from its carbon capture business.