Vital Energy - closure of Point Energy acquisition

[Petroleum economist]

Vital closed the acquisition of 80% of Point Energy on the 20th September. The related Form 8K SEC filing contained hydrocarbon and financial data on Point Energy with some pleasant surprises:

Reserves
• Late 2023 Point Energy had proven reserves of 117 M BoE. The Vital share is 93 M BoE.
• The reserves are a nice surprise. Based on 9-11years of production I had expected only 50-60 M B0E.
• With Point Energy included, the Vital reserves now have grown to 498.9 M BoE.
• The reserves are now equivalent to 10 years of 2025 production (was 9 years).
• The reserves mean Vital can now maintain production at 135-137 K BoE/d levels until 2031 (was 2029).

Fluid composition
• Reserves consist of 66% oil, 19% NGL and 16% gas. 2023 production had a similar composition
• The 66% oil cut was announced in the press release. The 19% NGL cut again was a nice surprise

RRR
• Reserves Replacement Ratios (RRR) in 2022 (4.48) and 2023 (6.54) were pleasantly very high, indicating potential for future reserves bookings.
• I had expected a RRR of 2.0-3.0

Book value
• The late 2023 NPV10 value of the Point Energy reserves (100%) was $ 2,375 M. The 80% share of Vital is a NPV10 of $ 1,900 M.
• I had anticipated only $ 813 M. The book value comes on top of the book value of Vital Energy of $ 2.879 M.
• The book value of Vital Energy + 80% of Point Energy at $ 78.22/bbl is now is $ 101/share.
• At an current oil price of $ 68.35/bbl the book value reduces to $ 64/bbl, more than twice the current share price.

Balance sheet
• Mid-2024 Point Energy had fixed assets worth $ 1,024 M.
• The Vital 80% share of the fixed assets is $ 803 M, close to the $ 820 M acquisition price.

Unit costs
• Point Energy 2023-unit costs (inclusive depreciation, interest, and overheads) were a medium $ 34.40/BoE, comparable to Vital ($ 33.84/BoE).
• As the Point Energy acreage has a much higher (44%) oil content than the Vital acreage, the unit costs suggest that the Point Energy acreage is more attractive to develop as the original Vital Energy acreage. No doubt we will see this reflected in the 2025 business plan.

Effect on economics
The effect on short economics is limited. The eps between 2025 and 2028 increases with $ 0.15 per share.
Long term eps (after 2028) will increase. With the fall of the Vital share price this week (shorts?) the ranking of Vital Energy goes up from 3rd to 2nd. I will write a full update on Vital after the Q3 results.

[dan_s]

Thanks Harry.

Vital has a high percentage of their oil hedge for Q3 and Q4 at $77.02 and $76.72, so very little oil price risk on this one. Q3 Reported Net Income will include a big mark-to-mark gain on those hedges.

TipRanks: "In the last 3 months, 12 ranked analysts set 12-month price targets for VTLE. The average price target among the analysts is $50.44. The 12 price targets range from $31 to $83."

Vital is profitable, is on pace to generate over $1 billion of operating cash flow, and it is free cash flow positive. There is nothing that I can see which justifies it trading a less than 50% of book value.

[KGardiner]

Thanks Guys,
I remain Long Vital and don’t understand why there’s no love here. Is this still some Laredo hate story? As I recall there was no shortage of producers before 2020 that drilled as fast as they could no matter the price of crude. By that logic at least half of all producers should be in the dog house.
Kevin

[dan_s]

Laredo Petroleum (LPI) changed its name to Vital Energy 1-1-2023.

About a year earlier, Laredo admitted during a quarterly conference call that they were drilling horizontal development wells too close together; admitting that their development drilling inventory ("Running Room") was overstated. I was on the CC and I could tell that several of the analysts were pissed. After the call, LPI was downgraded and the price target was slashed. LPI went to Wall Street Penalty Box. Once a small-cap makes some of the "Alpha Dogs" within the Wall Street Gang look bad, it can stay in the Penalty Box for a long time.

What's weird is that for the year 2022 LPI was the most profitable company in our Sweet 16. It reported Net Income of $631.5 million ($37.67/share) and $800.5 million ($47.75/share) of Adjusted Operating Cash Flow. On a per share basis, it was also the most profitable company in the Sweet 16 for 2023.

In addition to changing its name, the Company got a new CEO. Through a series of acquisitions (8 if you count the small ones) Vital's production increased by 17.1% year-over-year in 2023 and they are on pace for 34% YOY production in 2024.

As you can tell from Harry's comments, the Point Energy Acquisition adds a lot of proved reserves and valuable "Running Room".

Some of the acquisitions were funded by cash + stock, so the number of outstanding shares of common stock has increased from 16.8 million at the end of 2022 to ~38.5 million today. That is still a low number of shares for a company that should report production of close to 140,000 Boepd at the end of this year.

Per TipRanks today: "In the last 3 months, 12 ranked analysts set 12-month price targets for VTLE. The average price target among the analysts is $50.44. The consensus based on the 12 reports submitted to TipRanks is that Vital will generate 2024 Revenues of more than $1.9 billion, Net Income of $7.02 per share and Operating Cash Flow of $28.59 per share." < The consensus forecasts are slightly higher than my forecast because for every line item in my forecast model I believe I am using conservative assumptions.

There is nothing that I see which justifies VTLE trading near 1X operating CFPS.

Vital's Q3 Reported Net Income should be much higher than my forecast because it will include a big mark-to-market gain on their oil hedges. That should draw more attention to the stock. At the end of 2024 the Company's PV10 Net Asset Value should be over $70/share just based on proved reserves.

Vital is a pure play on the Permian Basin. In my opinion, it is a Screaming Takeover Target.

[KGardiner]

Yes I remember the lateral spacing snafu. I thought it was pretty clear back then that Loredo did their mea culpa back then. They admitted their mistake and vowed not to repeat it. But I guess forgiveness doesn't come easy for these big Dogs.

Kevin

[cmm3rd]

Could $1.6 billion debt have something to do with the market’s relatively low valuation? How does their leverage compare with that of similarly sized companies? Their presentation emphasizes that they intend to pay it down (which implies they know it’s concerning to the market), but how long will that take?

[Petroleum economist]

Cmm,

I agree with you that the high debt is a major contributor to the low valuation of Vital Energy. The Vital debt is too high. The$ 820 M acquisition of Point Energy, purely paid in cash, in my opinion was not the smartest move on the planet.

Debt in 2024
• Debt in late June 2024, was $ 1,666 M.
• Due to the Point Energy acquisition, debt will grow to $ 2.488 M.
• With the FCF in H2 2024, debt should reduce to $ 2.3 B by late 2024

Debt after 2024
• How fast the debt after 2024 will come down depends on the oil price.
• My base scenario is $ 70-75/bbl.
• Below I have included two charts:
o Debt in the period 2024-208, as a function of oil price.
o Debt/EBITDA ratio in the period 2024-208, as function of oil price.
• With WTI at $ 70-75/bbl, debt will have halved to $ 1.25-1.5 B by early to late 2027.
• The debt/EBITDA scenario hits at the same time an acceptable range of 1.0-1.3.
• This is the time that the start of shareholder returns can be considered.
• If the oil price is higher ($ 80/bbl), things can come forward by 6 months.
• If the oil price is lower ($ 65/bbl), things will take 12 months longer.

My hedging is based on the hedging positions as shared in the Q2 results. I assume that Vital in Q3 will have expanded their hedging positions, especially for 2026.

Hope the above is of use

[cmm3rd]

Thank you, Harry. Very helpful. They have a problem similar to Ring, in my opinion, which is that there are many producers who, because they have conservative leverage, are (1) inherently less exposed to lower commodity prices (i.e., less risky), and (2) able to offer meaningful shareholder returns (dividends and buybacks) now. My perception is that many institutional investors view risk (prioritizing it) and shareholder return carefully when choosing where to invest in this industry. Obviously, if prices hold and execution is good, highly leveraged producers could do very well in share price appreciation. But I believe many institutional O&G investors these days are much more sensitive to risk, and just the idea (however improbable) that there could be a price war should KSA decide to change strategy, or the threat of a recession that could significantly reduce demand and lower prices temporarily is reason enough for them to put highly leveraged companies in the "uninvestable" category. And that affects valuation. Thanks again for sharing your calculations. (I'm a synthetic VTLE long, short puts, hoping pps will at least stay around 30 or higher until the horizon re oil price is a bit more clear.)

[dan_s]

Leverage does work both ways. Because Vital has so much of their oil hedged, the commodity price risk is low on this one. Rising natural gas prices should help cash flows, but the pipeline capacity issue will remain a problem for the Permian Basin through 2025.

Oil hedges:
> 2H 2024 ~91% hedged at $76.85
> 2025 ~62% hedged at $74.85

Yes, an acquisition using a mixture of debt and equity would have been nice, BUT with their stock trading at less than 50% of book value the Wall Street Gang would not have liked the dilution of issuing a lot more shares.

Vital is free cash flow positive and it is locked in by the oil hedges, so they should use it to pay down debt.

If they can get the share price up by reporting solid Q3 and Q4 results, maybe an equity offering to pay down debt will make sense in the future.

I agree 100% that investors want dividends and stock buybacks these days.

IMO Vital's new CEO is building Vital for a sale or merger to a much larger company that can refinance the debt at lower rates. There aren't many pure plays in the Permian Basin of this size available. If WTI is $70/bbl at 12-31-2024 the PV10 Net Asset Value based on just Vital's proved reserves should be double the current share price.

Using Vital's December 31, 2023 3rd party reserve report (only proved reserves) and the audited December 31, 2023 balance sheet, the PV10 Net Asset Value was $70.49/share at the end of last year. Proved reserves will be higher at 12/31/2024.