PetroQuest Energy, Inc (PQ) $12.58 as of 10/16/07
Background: Petroquest is a small ($700mm market cap) E&P with operations in three principal areas. The company is the process of transitioning away from the burdensomely high decline rate, exploratory success driven nature of the GOMEX shelf and Gulf Coast to a more balanced mix of longer reserve life, dependably cash flowing assets.
- As recently as 2002, PQ devoted 100% of their capital budget to the high potential but high risk and high decline rate environs of the Gulf of Mexico Shelf and U.S. Gulf Coast. Since then sppending has been drastically reconfigured to 67% in "resource" plays in East Texas and Arkoma Basin (Woodford and Fayetteville Shales with only 34% going to the Gulf Coast region.
- PQ has posted respectable reserve and production growth (as you'll see below) but nevertheless trades at a steep discount to its larger cap peers. Their increased focus on longer reserve life assets should pay off in the future via expanded valuation multiples.
In A Nutshell It's Cheap On Multiple Metrics
Price to 2008 Cash Flow …
… And P/CF vs Reserve Life. Its increasing focus on "resource plays will boost its reserve life which should in turn result in cash flow multiple expansion. The company has not yet provided guidance for 2008 and analysts are for the most playing the name pretty conservatively as CFPS estimates for 2008 are in line with those of 2007 at around $3.70. This should change soon as the company puts forward new production growth guidance.
If PQ can boost it's multiple just 1 point that would be a 30% bump on the stock from current levels. Even at that point, trading at 4.4x cash flow, the stock would be exceeding cheap.
Production Profile: Management is guiding towards production growth of about 21% in 2007 and have yet to provide guidance on 2008 (and probably won't until March 2008). Natural gas makes up about 70% current production. The question remains as to whether management will guide towards single or double digit volume growth for 2008. My money is on double digit guidance as the they have Gulf Coast discoveries coming on line soon which should help to stave off production declines in that region while they add fresh, flush production from Woodford Shale portion of their Arkoma basin play as well as further increases from their East Texas Basin activities.
- 8 yr F&D: $2.87 / Mcfe… a little rich (all sources).
- 8 yr Reserve Replaced 220% (all sources)
- 8 yr CAGR Reserve Growth: 33% (all sources)
- They've made twelve acquisitions since the end 2of 003 (68 Bcfe for $1.44/Mcfe)
East Texas Basin: 50,000 net acres. Their big field here is SE Carthage (>90% of their ETB production). They have one rig continuously running here, 12 mmcfepd as of 2Q07 (11 of it from SE Carthage). The rest of the company's prospects and discoveries are scattered in 7 areas across four E. Texas counties.
Travis Peak and Cotton Valley Well Economics: (from the Carthage Field)
- Reserves: 1.1 Bcfe per well
- completed well cost (completed to both zones): $1.9 mm ($1.73 / Mcfe F&D)
- Initial Production (IP):1.3 MMcfepd
- long reserve life (RP of 30+ years)
- cheap to operate (LOE of $0.73/ Mcfe)
- economic down to $4 gas.
They have identified over 100 drilling locations here which should equate to some nice, low cost reserve adds.
- Woodford Shale, OK (Arkoma West): 27,000adding a second operated rig here, Woodford Gas Gathering – 152 –chechk pr –miles, what to do what to do?
- 25,000 acres along core of Caney Woodford shale trend
- 300 to 600 locations (on 80 or 40 acre spacing).
- Operating 2 rigs continuously here now, adding a third in January 2008.
- Well Economics So Far (assuming horizontal wells which is all they're doing):
- EUR: 2.5 to 3.5 Bcfe.
- $4.2 to $4.7 million completed well cost (this continues to fall).
- IP: 2.5 to 4.0 MMcfgpd.
- One final thought, (PQ) has the most acres to Enterprise Value of the major Woodford players by a longshot. Given the fact that they are cheap on this and other metrics (P/CF, TEV/EBITDA) they would make someone like (NFX), the leader in the play, or (CHK), the runner up, a nice, accretive acquisition. I really doubt CHK would do it given that they are out of that mode for now but Newfield might.
- Fayetteville Shale, AR (Arkoma East): Just over 17,000 net acres (as of August 2007), non operated well participation, increasing acreage position.
- 215 locations on 80 acre spacing. Small as producers go in the play.
- Still early here but they'll participate in a baker's dozen plus wells before year end and could have something to say as early as the 3Q call.
- Hartshorne Coal - Shallow coal (2,500') that lies well above much of the Caney and Woodford Shales. 35,000 net acres. They've drilled at least five successful CBM wells so far.
- South Louisiana: As of October they had 24 drill ready prospects here and a couple of wells turning to the right, one of which, La Cantera, would be fairly significant to the company based on a pre-drill reserve estimate of 98 Bcfe and PQ's 20% NRI.
- Gulf Of Mexico Shelf: Nearly half of their production still comes from this high decline rate region despite the fact that only 30% of their 2006 year end reserves were located here. While the region has given them strong production growth in the past it has also served to compress the company's multiple relative to it's peers. Taken on a standalone basis, PQ's GOMex Shelf operations would have an estimated reserve life of just 2.7 years. Granted that's on a 1P basis and when you get out into the realms of probables and possibles the reserve greatly expands. I say, sell someone else on that and punt the division to focus on the onshore.
You could probably expect to get around $3 to $3.50 / Mcfe for the 40 or so Bcfe now there yielding a nice pay day while"
1) increasing your remaining company reserve life from 4.3 to 6.0 years and
2) providing a smaller production base from which your growth from the Arkoma shales will be better highlighted.
Balance Sheet: 48.5% debt to total cap, more than manageable interest to EBITDA coverage
Short Interest: 3.5 mm shares short or about 7% of the outstanding and its generally been rising.
Management: strong and long with the company. I don't know them except by name but they come of out good places like MUT, CPE, Unocal, Ocean Energy, etc. You don't get promoted in those shops for being dumb. Their head of exploration is an old Ocean Energy hand where he was in charge of onshore and offshore exploration in the GOMex division and before that he partnered with NFX which would give him an exceedingly deep experience resume given what Ocean was able to accomplish before being scooped up by Devon.
Hedge Position: 3Q and 4Q have a little over a third of expected hedged in the high $7/mmBtu range. Very little oil was hedge. I have not seen any 2008 hedges as of 10/16/07.
Share and Enjoy