Sweet 16 Update - Nov 25

[dan_s]

During the light trading of the week that ended November 24th, the Sweet 16 declined by 0.38%.
The S&P 500 Index gained 1.18% and it is now up 18.75% YTD, primarily because "Fear of the Fed" seems to have faded.

I don't show the Sweet 16's YTD gain because I have replaced Earthstone Energy (ESTE) and Ranger Oil Corp. in the portfolio with EOG Resources (EOG) and Baytex Energy (BTE). Earthstone and Ranger Oil were taken over by Permian Resources (PR) and Baytex Energy (BTE). We realized large gains on both takeovers. I believe PR and BTE have significant upside potential from where they closed on Friday.

The three stocks which trade at the deepest discount to my valuations are Callon Petroleum (CPE), Vital Energy (VTLE) and SilverBow Resources (SBOW). These are the only three Sweet 16 companies that do not pay dividends. This market rewards upstream companies that are "Stockholder Friendly" and puts paying dividends at the top of the Friendly List.
So, the question is "Do these three companies plan to pay dividends in the future?"
> All three of them are free cash flow positive, so they should have the ability to pay dividends.
> "Free Cash Flow" is simply Adjusted Operating Cash Flow - Capital Expenditures (not including money spent on acquisitions).
> All three of these stocks are trading at less than 2X my 2023 operating CFPS forecasts. The Sweet 16 average CFPS multiple is 3.7X, which is historically a very low valuation multiple for companies of this quality. 6X CFPS is a reasonable valuation multiple for companies with strong balance sheets that generate free cash flow and have the potential to increase production and proved reserves.
> EOG and EQT are the only two that are trading a more than 6X operating CFPS. As I have posted here many times, "Size Matters in this business". EOG is the largest oil producer and EQT is the largest natural gas producer in the Sweet 16.

> Based on my forecast models, here is how much FCF each one should generate this year:
>> CPE ~$200 million ($2.95/share) < Most likely to start paying dividends in 2024.
>> VTLE ~$198 million ($9.08/share) < On a per share basis, Vital was the most profitable Sweet 16 company last year and they should finish 2023 in the top four most profitable.
>> SBOW ~$60 million ($2.36/share) < This is a VERY AGGRESSIVE GROWTH company.

Callon Petroleum closed two strategic transactions on July 5th that significantly improved their balance sheet. It is now a pure play on the Permian Basin with plenty of running room. It has no near-term debt issues. IMO it is the most likely to start paying dividends in 2024.

Vital Energy's stock is trading below book value at a PE ratio under 2, which is insane. It is still in "Acquistion Growth Mode", but they have more than enough liquidity to pay dividends. For now, I think paying down debt is the best way to increase the value of the equity. This company's CEO seems to be following the "Earthstone Play Book" of building a strong asset base that turns into an attractive Takeover Target. Vital is also a pure play on the Permian Basin.

SilverBow Resources is a pure play on the South Texas Eagle Ford / Austin Chalk plays. It should close the Chesapeake South Texas Acquisition in December. It is a truly "Transformative" deal for a company of this size. There is a lot of work ahead of them to take over operations of this many properties, but if all goes as planned, SilverBow should draw a lot of attention by mid-2024. SilverBow is the least likely to start paying dividends, but my 2024 forecast shows a stock valuation over $100/share. If natural gas prices do go to $4.00 a year from now, SBOW could be the top performing stock in the Sweet 16 next year.

Permian Resources (PR) leads the pack, up 39.79% YTD. They closed the merger with Earthstone Energy (ESTE) on November 1st. I think my valuation of $21/share is reasonable for a company of this size (over 300,000 Boepd) that IMO is now a "Screaming Takeover Target".

I would love to see PR merge into Diamondback Energy (FANG).

Following PR are two of our "gassers". Range Resources (RRC) is up 33.73% YTD and EQT Corp. (EQT) is up 20.75% YTD. Both of them will report solid Q4 results despite the pullback in natural gas prices. If HH ngas averages $3.25 in 2024, EQT will generate over $4 Billion of operating cash flow next year.

[dan_s]

Antero Resources (AR) has moved up to the top of my list for addition to the Sweet 16 for 2024.

In a report issued on November 1, Nitin Kumar CFA from Mizuho Securities maintained a Buy rating on Antero Resources, with a price target of $38.00. The company’s shares closed last Friday (11/24) at $25.13.

According to TipRanks.com, Kumar is a top 100 analyst (5 Stars) with an average return of 20.0% and a 73.2% success rate.

Currently, the analyst consensus on Antero Resources is a Moderate Buy with an average price target of $33.33.

In a report issued on October 24, Raymond James also upgraded the stock to Buy with a $37.00 price target.

We will be sending out updated profiles on AR and Antero Midstream (AM) on Monday. AM is one of the midstream companies in our High Yield Income Portfolio. AM's growth is tied directly to AR's aggressive drilling program.