Earthstone Energy (ESTE) Valuation Update - Mar 9

[dan_s]

I have updated my forecast/valuation model for ESTE and posted it to the EPG website.

My valuation increases by $4 to $38/share.
> I added Q4 actual results and updated each quarter in 2023 based on the detailed guidance the Company provided.
> This is an AGGRESSIVE GROWTH COMPANY and most of the growth will continue to come from accretive acquisitions in the Permian Basin.
> Q4 production beat my forecast by 4,766 Boepd.
> I expect them to achieve the high end of this year's guidance, not including additional acquisitions.
> Operating cash flow should increase from $7.39/share in 2022 to $8.20 in 2023. A valuation of AT LEAST 4X CFPS SHARE is a conservative target.

[dan_s]

Note below from Truist Financial 3-10-2023

Earthstone Energy, Inc. (ESTE, $13.69, Buy)
- Steady Efficient Plan to Provide Notable FCF
- Earthstone is a notably different company than just a year ago, producing ~100,000 boepd vs ~78,000 boepd a year ago, and just ~25,000 boepd a couple years ago.
The larger scale enables the company to run a
more active D&C program boosting what already was one of
the more efficient operations. We anticipate operations/well
returns to improve not only from a more active program but also
a larger high quality inventory base to drill. We estimate nearly
$500MM FCF or nearly the same as last year despite likely lower​
commodity prices and higher capital spend this year. We are
reiterating our price target of $23. - Neal Dingmann

[dan_s]

My updated profile on Earthstone has been posted to the EPG website. You can download it directly from the EPG home page.

[Fraser921]

I take Dans number and divide by 2 , so 38/2= 19
- Neal Dingmann is @ 23

I think both numbers are at risk if crude plunges to the 60's or lower

[dan_s]

Every company is at risk if the price of what they produce declines.

It is easy to make money on well run oil and gas companies if you know where oil and gas prices are heading. It is up to each of us to decide where we think commodity prices are headed.

My take is that this world will be running on fossil fuels for many more decades and oil is the most important. I also believe that the "cheap oil" has been harvested and therefore oil prices will increase over time. Therefore, I look for upstream companies that have a lot of high-quality / low-risk development drilling inventory and the liquidity to bring those reserves to market. Earthstone and all of the Sweet 16 have lots of running room.

I also know that demand for oil is seasonal, and we are currently in the lowest demand quarter, but the highest demand quarter is just ahead.

For natural gas the U.S. market for gas is currently adequately supplied but there is not a "glut' of gas. The domestic market for U.S. natural gas is growing much faster than the global market for oil. Over the next two years the U.S. natural gas and NGL producers will gain a lot more access to the global markets for their products. My opinion is that U.S. natural gas prices will move toward the international market prices with more access. $2.50 is definitely not the "Right Price" for U.S. natural. The NYMEX strip for HH gas futures is telling me that higher gas prices are coming soon.

Another thing going for natural gas is that it is the "clean fossil fuel" and the U.S. is blessed to have an abundance of natural gas and the most advanced infrastructure to gather, process and transport gas it end users. If we had more knowledge people running our country we would be doing a better job of leveraging this advantage. I've said many times that "Natural gas is God's gift to America". It is also God's gift to Europe, but the Wacko's are in even more control across the pond.

This concludes my lecture for today.

[Fraser921]

Agree with your thesis, only question is timing.

I have a very short time horizon. Who knew 3 days ago the banking system would be brought to it's knees?
The politician's will blame others, that's how they roll.

[Orindakid]

I like to look at the day rates of the deepwater offshore rigs to forecast what the PRO's are saying about long term oil and gas price. They are up 30 - 50% in the last year, with longer term contracts and rates and stacked rigs getting paid millions to remobilize. I am all in on oil and gas over the next 5 years. As the Cajuns say, the current pricing is "a pimple on a ducks ass". Stand back and look at all the stuff going on in the world. This business is here for the long term. Micromanaging every week or day is a waste of time.
Cheers.

[Fraser921]

I agree with everything you said except your last sentence. I like to micromanage.

I agree that's not for everybody and some people even though they like the names won't invest in them due to risk tolerance regardless of the price.

I heard a hedge fund blew up, they were short bonds and long oil. When rates fell this week, they had to unwind the trade

I don't like being a bagholder down 50%. Prices go from 120 to 65 or NG 10 to 2 you have to react hopefully not at the bottom.

I think we are nearing a bottom and have been nibbling at some names.

[Ray_M]

Good points around timeframes and forecast price. Using Dan's models, I thought I'd do a what-if analysis to see the impact of $60 oil and $2.50 gas for all of 2023 and 2024. I kept the Fair Value Factor and weightings the same as in the individual models today. The model also used yesterday's (March 16) Closing prices to calculate the % Upside to Fair Value. With these prices, five companies still modeled to have a % Upside greater than 100%: CPE, CPG, ESTE, VTLE and SBOW. The lowest % Upside is Range Resources at 1.9%.

I'm using these results to review the current weight of my holdings.

This is a screenshot of the results across all Sweet-16 companies:

What-If Screenshot 2023-03-17 142738.jpg (125.28 KiB) Viewed 20959 times

Pricing Table:

What-If Prices Screenshot 2023-03-17 142938.jpg (53.56 KiB) Viewed 20959 times

[Roadster]

Thanks Ray !!!!!

[Fraser921]

Great work and super helpful!

May I suggest a worst case scenario. Actually this would be my base case. Worst case might be 20 % lower prices.

1. Ignore 2022 cash flows. Reasoning coming off covid and Ukraine spiked rates and NG shortage in Europe. None of those will repeat in 2023.

2, Just use 2023 cash flows. Ignore 2024 too

3. Use a 3 x on the ocf instead of 4 -6 x. Reasoning current deals are being consummated at 3 x and that's with higher prices. Now with weaker prices , deals will not even be done at 3 x

Please repost your output with these numbers.

Many Thanks. This shows great value in Dan's model, we can model anything we want and he has done the heavy lifting in creating the model.

Dan's model, imho, has too many positives piled on each other to get what it should be and not what thing's are trading at.

Respectively submitted .

Now where do I find green beer?

[aja57]

Great post Ray. Thanks

[JBtheBrit]

@Fraser - each to his own. I am sure your approach works fine for you... if I tried it I would have even more grey hair than I do. My approach is to develop a thesis (for example in my view over the next 3-4 years oil demand will exceed supply due to the lack of production investment, due in part to the media driven view that oil is going away rapidly), pick names that align well with that and invest for the medium term. Sure I pay attention to whats going on, listen to the quarterly calls etc, but I don't trade day to day on that - I suck at timing and would undoubtedly make poor trade decisions. What I do on a monthly basis is review every name and consider whether my overall thesis remains in tack - if it does, I stick with it. If it doesnt I decide whether to leg down out of the position or dump it... noting I usually leg into positions as well (back to my timing point). The other thing I would add is that I never have concentrations in one specific area - for example I would never go 100% in on my oil thesis - but rather I try to limit my equity exposure to one thesis to 20-25% of my total equity holdings. I will say however that as of now I probably 65-70 % of my equity holdings aligned with the broader resources are going to be in short supply thesis (be that Oil, Copper, NG and Fertilizers).... as such... its been a rough 2 weeks... but so be it... not changing my approach which has served me well over many years.

[Ray_M]

Thanks Roadster, Fraser921 and Aja57!

Fraser - I believe this is what you were requesting.
Prices are 20% lower: Oil is $48.00 and Gas is $2.00
1 & 2. Weighting factors for 2022 and 2024 are 0.00
3. Fair Value Est Factor for all companies is set to 3.00

Please note two things about this model:
1. I'm assuming that the hedges do not change in the model (I believe this assumption is correct, but someone more familiar could probably weigh in). The models also don't take into account what the business would do with such low prices over an extended time, such as shutting in wells or reducing volumes. At the end, I did include a screenshot of SBOW showing where the updated oil/gas prices are being updated in the spreadsheet.
2. The CAD to USD conversion for prices for Crescent Point may be off. I'm having some challenges tracing through the Excel formulas for that spreadsheet.

Pricing Table:

Scenario 2 Prices - Screenshot 2023-03-17 155812.jpg (56.78 KiB) Viewed 20854 times

Model Results:
For reference, I'm also including the EPG estimates (purple background) showing the impact due to only the price changes. Also included in the last column is the date of each individual model found on each spreadsheet that Dan publishes.

Scenario 2 Screenshot 2023-03-17 155906.jpg (186.82 KiB) Viewed 20854 times

SBOW Pricing Examples:
This is the example mentioned above from SBOW (I'm using the same approach on all models). Any changes I have made to a model are in dark blue. In the case of the prices, I replaced the price values in each spreadsheet with a formula that references the appropriate cell in the pricing table (I make the price change in one place and all of the models recalculate).

Scenario 2 SBOW Screenshot 2023-03-17 160034.jpg (157.86 KiB) Viewed 20854 times

[dan_s]

Thank you Ray!

[knusser58]

Thank you Ray. This is very helpful.

[Roadster]

Ray So interesting. The ultimate : What is the Breakeven Oil and Gas price for each of the Sweet 16 ?

[ChuckGeb]

Looks like Ray has done a lot of work including calculations not illustrated. Kudos. Do usually happen to know the rate of vanishing FCF ie the point where cash flow equals capex? I know this won’t apply to SBOW as they are in an acquire and exploit growth mode but most of S16 were FCF positive in 22.

[Ray_M]

Hi Roadster and Chuck. The workbook I’m using is a top-down approach that supports defining variables such as price forecasts in one sheet, then consolidating the results from each of Dan’s models based on those common inputs.

Both of your questions would benefit from a bottoms-up approach instead since the input variables (in this case the price of oil and gas) would be different for each company. By the way, I think both of these are great examples of what Dan suggests in his weekly webinar discussions about using the individual models and exploring the impact of changing the various assumptions such as prices or weightings.

For both of these questions, I would start with using Excel’s built-in What-If Analysis functionality. I did a quick test with RRC. Since RRC primarily a Gas company, I used the What-if goal-seek option to find what price would result in a Fair Value of 0.00 (answer: 0.437). On the other hand, with two independent input variables such as Oil and Gas prices, the Data Table option could be used since there can exist multiple combinations of prices that result in an overall value of 0.00.

If you have any questions or ideas, let’s open a new thread in the ‘Other topics..’ section of the forum and go in more depth.

Ray.

[dan_s]

To get breakeven for FCF for each company you need to use each company's forecast model.
> download it to Excel on your computer
> First see how their hedges impact the realized prices for oil and gas in the tables at the bottom far right.
> Change the oil and gas prices for each quarter in the table for the unhedged volumes. The models are macro driven, so they will update operating cash flow automatically.
> FCF = Operating Cash Flow - CapEx So, keep in mind that the companies will cut back on capex spending if oil and gas prices decline.

All of the Sweet 16 should be FCF in Q1 at today's prices.

Learning to use the forecast models is KEY to your fundamental due diligence.

[tlengoc]

I believe the price of oil is going much higher. At least to $100.00 per barrel this year. Maybe even $115 by Q4 2023. I don't know about natgas yet but it could be explosive to the upside too.

[ChuckGeb]

What do you see to be the catalyst for the higher prices?

[Fraser921]

A guy named Brandon.

He could of partially refilled in mid 60's a week ago, but I think his check will bounce. North of $ 70 today. My gut say's 100 too.

At 70 , crude is a 1.66 a gallon. A gallon of water at the supermarket costs more than that

[tlengoc]

What do you see to be the catalyst for the higher prices?

Catalysts:

Forecasts of extremely hot summer.

The driving season starting after the Memorial Day Weekend.

Demand for Jet fuel and other petroleum products.

Understated world oil production and supply.

Saudi Arabia selling their oil to the West at much higher prices (they are no sanctions against them ==> so there is no price cap on their oil exports) but they are importing discounted Russian oil for their domestic market.

China did the same but the it was for NG. They bought NG cheap and resold it to the Europeans at huge multiples. While getting discounted Russian oil and NG.

Possible oil embargo on the West.

Possible China special operations vs Taiwan

Ukraine War will be over by the summer.

I saw a technical chart for oil to possible reach $265.ish but I don't know the time frame for that to happen.

[ChuckGeb]

I appreciate your sharing you thoughts. I hope you are right! A lot of 'risk off" right now with unstable economic conditions much of it based upon high level of fear. Hopefully the fear is overdone. A lot of cash liquidity waiting for a new home or relocation of capital. Where will it all go when the memo goes out? I don't think it is going to be tech stocks or banks. I think we have not seen the bottom yet. Tread carefully but there certainly are opportunities. remember Warren's thesis on making buys, but when others are paralyzed in fear (or something like that). Best of luck and thanks for sharing.

[tlengoc]

I appreciate your sharing you thoughts. I hope you are right! A lot of 'risk off" right now with unstable economic conditions much of it based upon high level of fear. Hopefully the fear is overdone. A lot of cash liquidity waiting for a new home or relocation of capital. Where will it all go when the memo goes out? I don't think it is going to be tech stocks or banks. I think we have not seen the bottom yet. Tread carefully but there certainly are opportunities. remember Warren's thesis on making buys, but when others are paralyzed in fear (or something like that). Best of luck and thanks for sharing.

I also forgot to add the re-opening of China.

Here's a tidbit from Josh Young on twitter:

https://twitter.com/Josh_Young_1/status/1638549527287287810?cn=ZmxleGlibGVfcmVjcw%3D%3D&refsrc=email

[tlengoc]

I appreciate your sharing you thoughts. I hope you are right! A lot of 'risk off" right now with unstable economic conditions much of it based upon high level of fear. Hopefully the fear is overdone. A lot of cash liquidity waiting for a new home or relocation of capital. Where will it all go when the memo goes out? I don't think it is going to be tech stocks or banks. I think we have not seen the bottom yet. Tread carefully but there certainly are opportunities. remember Warren's thesis on making buys, but when others are paralyzed in fear (or something like that). Best of luck and thanks for sharing.

There's also this:

https://twitter.com/HFI_Research/status/1638567212834521090?cn=ZmxleGlibGVfcmVjcw%3D%3D&refsrc=email

[tlengoc]

I appreciate your sharing you thoughts. I hope you are right! A lot of 'risk off" right now with unstable economic conditions much of it based upon high level of fear. Hopefully the fear is overdone. A lot of cash liquidity waiting for a new home or relocation of capital. Where will it all go when the memo goes out? I don't think it is going to be tech stocks or banks. I think we have not seen the bottom yet. Tread carefully but there certainly are opportunities. remember Warren's thesis on making buys, but when others are paralyzed in fear (or something like that). Best of luck and thanks for sharing.

Hong Kong removes all travel restrictions.

https://www.coronavirus.gov.hk/eng/inbound-travel.html

[ChuckGeb]

Good info. I am sticking with the thesis that a lot of choppy water still ahead. Took some very nice gains today to trim down to my hunker down portfolio. Plenty of opportunity ahead to get back in at better prices. I'll bet Warren wasn't buying today.

I bought some EPD and MMP today on the thesis I gained this weekend that both of these have their long term capital needs locked in at long term low interest rates and their distributions should be safe and growing going forward. Nice safe yield right now.

Note tankers sold off today based upon fear of higher oil prices moving global recession forward. What do those traders know?

It is hard for me to stay disciplined but so far I have stuck to my convictions. I have enough skin in the game to be happy either way.

You have to ask yourself something about the much welcomed "China reopening": When the biggest market for China being the US consumers are maxed out on credit cards, could that be a concern or is their military buildup and making friends everywhere BJ has left a world leadership vacuum going to propel their economy forward in the way perceived by so many?

Oil gas and metals are good bets right now.

Best of luck.

[tlengoc]

Good info. I am sticking with the thesis that a lot of choppy water still ahead. Took some very nice gains today to trim down to my hunker down portfolio. Plenty of opportunity ahead to get back in at better prices. I'll bet Warren wasn't buying today.

I bought some EPD and MMP today on the thesis I gained this weekend that both of these have their long term capital needs locked in at long term low interest rates and their distributions should be safe and growing going forward. Nice safe yield right now.

Note tankers sold off today based upon fear of higher oil prices moving global recession forward. What do those traders know?

It is hard for me to stay disciplined but so far I have stuck to my convictions. I have enough skin in the game to be happy either way.

You have to ask yourself something about the much welcomed "China reopening": When the biggest market for China being the US consumers are maxed out on credit cards, could that be a concern or is their military buildup and making friends everywhere BJ has left a world leadership vacuum going to propel their economy forward in the way perceived by so many?

Oil gas and metals are good bets right now.

Best of luck.

Besides China and Hong Kong re-opening I would also add that the Asian block will most likely do the same. Countries like Vietnam, Singapore, Malaysia, just to name a few.

Also Japan is buying oil from Russia. More de-dollarization of the Greenback/PetroDollar and the trend of all countries reverting back to their sovereign currencies. What If Germany goes back to the Deutsche Mark and buys Russian Oil too.