Sweet 16 Update - September 2

[dan_s]

The Sweet 16 finished the week up 1.33%, but it is still down 30.96% YTD. The companies themselves are in much better shape than they were at the beginning of the year. On top of that, supply/demand fundamentals for oil, natural gas and NGLs are clearly tightening.

Demand for natural gas will be down over the next few weeks because flooding of refineries and petrochemical plants does reduce demand. However, production is also down about 0.7 Bcfpd.

The real story for natural gas is that storage is back to the 5-year average and everything indicates that we will begin the next winter heating season with a lot less gas than we had last year. My WAG is that we begin the winter with gas in storage 150 Bcf below the 5-year average. Just a normal winter should cause gas prices to firm up nicely. AR, GPOR and RRC are the Sweet 16 companies with the most exposure to increasing natural gas prices.

My "WAG" is based on the fact that, despite a mild summer in the eastern half of the U.S., the delta to the 5-year average amount of gas in storage has declined by 180 BCF over the last eight weeks. I keep seeing articles that say natural gas demand is down YOY, but that is sure not showing up in the storage reports. Associated gas in the Eagle Ford is down about 2.0 Bcfpd YOY, but production in other areas is up. Exports and industrial demand are definitely up.

Gulfport Energy (GPOR) had the best week. I am expecting the company to report several strong well results in the Merge Area between SCOOP & STACK. I talked to a landman based in Tulsa and he told me that his scouts are getting strong well report from GPOR and other companies in the area. If you go to slide 27 of Gulfport's August presentation, you can see that Continental Resources (CLR) is also very active in the same area. APA, MRO, NFX and Vitruvian are also active in the area and they have all reported strong well results. Gulfport now owns all of those Vitruvian wells.

The Sweet 16 have production and proven reserve growth locked in. They also have more than enough cash flow from operations and access to capital to fund their growth plans. As a group they closed on Friday at ~8X my operating cash flow per share estimate. That is a reasonable multiple for a group of this quality except for the fact that they all have a lot of running room. By "running room" I mean thousands of low-risk/high-return drilling locations in proven areas. The Sweet 16 control some of the most valuable real estate on this planet.

Seven of the Sweet 16 are trading for less than 6X CFPS: AR, CRZO, DVN, GPOR, NFX, PDCE and RRC. I think you'd agree that these are some darn good upstream companies.

When I was working at Hess in the business development area, if we could find a company at 6X CFPS it went on our potential takeover list. I'm talking about companies with almost no development drilling opportunities.

You can find the CFPS multiple that each Sweet 16 company is trading for on the far right of tab 1 of the main Sweet 16 spreadsheet. It is updated weekly.

The Eagle Ford companies with the most exposure to Hurricane Harvey are EOG and CRZO. Most of CRZO's Eagle Ford production is west of the area with the most flooding. RRC may have some production issues in East Texas, but nothing major.