RRC and SWN

[dan_s]

Thoughts on these two from the TPH Morning Notes dated 1/18/2019. Keep in mind that TPH is bearish on natural gas prices in 2019. I believe the harsh winter weather ahead is going to raise gas price since U.S. gas in storage is going way below the 5-year average by the end of winter.

RRC Stock Thoughts

Elevated leverage / valuation has us sidelined, but capital allocation and asset sales could change that in 2019

Sector: NAm E&P | Ticker: RRC | Recommendation: HOLD | Target: $20 | Close: $11.52 < Target compares to my valuation of $27.00/share - Dan.

Although management executed multiple asset sales in 2018, RRC's balance sheet remains an overhang with leverage set to expand in 2019 due to commodity price weakness. Monetization of NE PA / Terryville and longer dated SW PA inventory (we believe this is key) could accelerate the deleveraging process and eventual return of capital; we're looking for multiple asset sales in 2019. Looking ahead, we model a 2019 program of ~$730MM / 2,342mmcfed vs Street $1.05B / 2,458mmcfed; longer term we model a 6% production CAGR between 2020-2025 and a concurrent average FCF yield of 12% with potential for shareholder returns to begin in 2023 ex-asset sales. We also see maintenance capex as a viable option going forward with a 5% increase in gas strip needed to keep leverage metrics unchanged vs our current model. Despite +74% upside to our 3P NAV of $20/shr ($54 WTI / $2.73 HHUB / $61 Brent LT), the equity screens expensive at 6.9x 2020 EV / EBITDA (along with 2% ROCE and 78x P/E) vs peers at 5.5x despite an over-levered balance sheet (TPHe 4.0x leverage at YE'19). As such, we remain Hold rated as we await balance sheet repair and execution on asset sales.


SWN Stock Thoughts

Watchful for 2019 capital decision and marketing around MXP

Sector: NAm E&P | Ticker: SWN | Recommendation: HOLD | Target: $6 | Close: $4.45 < Their target compares to my valuation of $8.50/share - Dan.

As we look ahead to SWN's upcoming Q4'18 earnings for the official near-term outlook, we continue to watch for the company to utilize flexibility in moderating activity despite recent 2019 HHUB price strength as the 2020+ outlook remains weak (~$2.70/mcf). For 2019, we currently model a $920MM program vs. Street's $1.2B in an effort to model towards cash flow at strip (TPHe <$100MM outspend), resulting in 6% Appalachian growth y/y (down slightly exit/exit). In addition to protecting the balance sheet (~2x 2019/2020 leverage at strip on TPHe capital program), we see less growth as warranted given a TPHe single-well breakeven >$3/mcf for a 30% ATROR at strip oil prices. We see a maintenance program generating modest FCF generation in 2020/21 (~2% yield) before accelerating to an average 8% yield in 2022-25. Slower activity may require fine tuning and balance, however, given forthcoming FT commitments on the upcoming MXP pipeline (limited start-up announced yesterday). The company has messaged increasing utilization over time via both produced (2019+ FT 869MMcfd vs Q3'18 gross operated 522MMcfd) and 3rd party volumes, though operators reducing growth (TPHe also warranted) may limit the optionality. Remain Hold rated given spending, leverage, and marketing headwinds with middle of the pack 2020 EV/EBITDA valuation of 5.4x (11.6x P/E ratio) at strip.