Zman’s Energy Brain ~ oil, gas, stocks, etc…

The 3Q Numbers:

• Production Above Upwardly Revised Guidance:
  • Reported 52.8 Bcfe (574,000 Mcfepd), up 76% from year ago quarter, guidance was 47 to 49 Bcfe.
  • Why? Simply better than expected performance from the extended long lateral program in the Fayetteville Shale.
  • Fayetteville Shale Gross production was 600,000 Mcfepd at the end of the quarter, that’s a whopping 20% increase from the end of 2Q’s 500,000 Mcfepd.
  • Note that they could have produced more were it not for takeaway capacity limitations caused by a delay in the completion of the Fayetteville Lateral of the Boardwalk Pipeline.
    • It’ll be interesting to see how many wells are awaiting completion due to this delay (think even bigger production spike in 1Q/2Q time frame as they are fracced and tied in.

Sentiment Watch: Cautiously green feeling. Very busy with earnings so I’ll just get to it.

In Today’s Post:

1. Holdings Watch
   
2. Commodity Watch
   
3. Natural Gas Storage Preview
   
4. Crude Oil Inventory Review
   
5. Stuff We Care About Today - Lots ‘O Earnings Commnets (FSLR, WLL, XOM, TSO) plus CHK, OII, and SWN tonight
   
6. Odds & Ends
   

Holdings Watch: Wiki Holdings, $10KP, and ZEB Performance are updated.

• (SWN) - Out half SWN November $25 Calls (SWNKE) for $7.50, up 114% since entry yesterday. Will play with “house money” into earnings tonight.
• (DO) - $10KP Trade. Sold DO December $80 Calls (DOLP) for $11.40, up 315% since entry on 10/23. Just felt like it had done better than I expected in a far shorter amount of time.
• (CVX) - $10KP Trade. Sold all (5) of the CVX November $70 Calls (CVXKN) for $5.70, up 171% since entry on 10/16. Just lightening up a little pre Fed decision and after a nice run. Will add back if things tank post Fed as the flight to “big cap household names” theory still holds in energy.
• (XOM) - $10KP Trade - Added (5) XOM December $80 Calls (XOMLP) for $4.30 with the stock down about $0.60 on the day as the Dow and broad markets react at least initially in negative fashion to the Fed 50 basis point cut.
• (XOM) - $10KP Trade. Sold the (3) XOM November $70 calls for $9.40, up 137%. Holding the Decembers from the prior trade through earnings but felt it would not be prudent to have too much in the name before numbers.

10KP Watch:

• Current value: $16,100
• Cash: 67% ($10,700).
• See 10KP tab here.
  

Commodity Watch

 Crude Oil oil closed up $4.77 at $67.50 yesterday as commodities found fresh life from a falling dollar and increased faith in another round of OPEC production cuts. The dollar tumbled on expectations that today’s widely anticipated rate cut may not be the last. This morning crude is trading up a little over a $1.50 as the Dollar weakens further.

• Russia Watch: Russia said it may cut production 300 to 400,000 bopd to support efforts made by OPEC to boost prices. This news came out yesterday and goes hand in hand with my recent thoughts that the tide is turning for oil. OPEC is not playing and with Russian production declining and now potentially acting in concert with the Cartel I think oil has put in a near term bottom. Recall the world consumes about 86 mm bopd, OPEC produces roughly 30 mm bopd and Russia produces another 10 mm bopd. If they act together that will send prices up.

Natural Gas ended up a $0.36 at $6.78 yesterday on the back of higher oil prices. This morning gas is trading up slightly in front of what could be the last injection of the season. 

Natural Gas Storage Preview

• My number : 35 Bcf Injection
  
  • Weather: 92 heating degree days vs 47 last year.
    
  • Imports: still off 1 Bcfgpd (7 Bcf per week) from year ago levels.
    
• Street Consensus: 41 Bcf Injection
  

Crude Oil Inventory Review

CRUDE OIL - Smaller than expected increase in inventories as refinery utilization continues to recover from hurricane season.

GASOLINE - unexpected draw on stocks as demand holds steady

DISTILLATE - bigger than expected build allowing stocks to get back into something close to normal levels just in front of winter.

Distillate Production Is Well Above Normal Levels. Part of this is due to a need to catch up on the heating oil side of the market. Another part is continued strong demand for distillate for export, especially to Western Europe. Thinking about VLO and or SUN with this in mind.

Stuff We Care About Today - Lots of news so I’ll just hit the highlights.

XOM Reports Strong 3Q Numbers

• Revenue of $137.7 B vs $131.4 B expected
• EPS of $2.59 vs $2.39 expected (range of $2.25 to 2.50)
• Buyback:  $8 billion bought during the quarter, reducing share count by 2%, last quarter saw 1.7% reduction (same $8 billion figure)
  
• Capital Budget: 2008 in line with prior guidance at $25B.
• Production fell 8% YoY or 5% if you exclude all the noise from production sharing contracts and hurricanes. The Majors just can’t grow.
• Guidance: None given as per usual, see call for forward thoughts
  
• Balance Sheet: Nothing disclosed yet
  
• Conference Call: Today, 11 EST

TSO Reports Surprisingly Strong 3Q Numbers

• Reported EPS of $1.63 vs $1.48 expected
• Gross margins on throughput were up 65% sequentially and 85% YoY due to cost cutting and improved crude purchasing (nice job fellas)
• Net debt to net cap continues to inch lower, now 30%
• Total assets inches up and I’d guess a big piece of this rise is finished product inventories. With TA of $8.7B you’ve got to be thinking price support for the shares.
• Conference Call: today, 8:30 EST

EVEP Increases Distribution. EVEP bumped its distribution from $0.70 to $0.75 implying an 18.5% current yield.

FSLR Reports Beat, Eases 2009 Fears

• Revenue of $348.7mm vs $341 mm expected
• EPS of $1.20 vs $1.02 expected
• Conference call was last night and it led shares on a roller coaster with a close near $115, falling to $104 on news they canceled their November analyst day to focus on the business before rallying to $135 on positive guidance.
• Guidance: 4Q08 and 2009 Sales volumes in line with Street expectations
• Backlog at $1 billion
• Cost per Megawatt coming down, now $1.01 per MW and still on track for $0.70 in the next 2 to 3 years
• Channel checks with Europe, Canada, South Korea, and U.S. based customer show no signs of subsidy reversals
• Margin guidance appears conservative given operating costs trends
• Sales volume confidence plus operation margin guidance plus a much lower than expected forward tax rate translates into rising 2009 and beyond earnings projections.

WLL Reports Crushingly Strong Quarter, Lots of New Bakken Wells

• Revenue of $388mm  vs $358mm expected
• EPS of $2.50 (ex item) vs $2.33 exp.
• CFPS of $6.82 vs $5.36 exp.
• Production grew 14% sequentially,  very strong despite hurricane disruptions
• LOE of $13.93 per BOE, coming down from past quarters as production ramps
• Guidance:
  • Budget to be in line with cash flow for 2009
  • 4Q production points to further growth of around 9% sequential on volumes
  • Costs per unit coming down further
• Highlights: See an average 24 hour test IP of over 2,200 bopd (30 day at 941 bopd), very strong from 21 wells in the Sanish field in the middle Bakken, North Dakota.
• Valuation: Not that people put a lot on valuation right now but this is cheaper than ever on CF with a 2009 multiple of 2.2x the current $19.49 CFPS estimate.
• Conference Call: Today, 11 EST

Other of note:

• (CHK) reports after the close. I’ll probably add a little more exposure here today.
• (OII) reports after the close. I’m very probably not going to play but will listen to the call.

Odds & Ends

Analyst Watch: RBC takes (WLL) target up from $100 to $115 on the earnings release, (FSLR) raised to Buy at Soleil and at Merriman.

Holdings Watch:  Wiki Holdings, ZEB Performance and the 10KP updated through Friday

On To The Wrap:

Comments tabled to Monday post.

OPEC Bailout Watch: Production Cut 1.5 Million Bopd. Cut to implemented by November 1 which is fast by Cartel standards. OPEC President Chakib Kehlil said,  "We’re prepared to meet more often to stabilise the market. If a further decision has to be made, it will be made and we will not necessarily wait for the Oran (December) meeting,"

Sentiment Watch: Absolutely horrible open on tap. Asia and Europe got crushed overnight and a full scale U.S. equity market capitulation appears set for the open (if not through the close). You know it’s bad when one of the top stories on MarketWatch deals with circuit breaker levels. For the completely risk immune, the open will likely represent a fantastic buying opportunity in many energy names as even the biggest of the big caps are set to open down 10% as determined by a few 10s of thousands of pre market shares. Dramamine a must.

Big Thoughts From Yesterday Watch: Offshore drilling, especially in the deepwater segment, has been largely unaffected by recent slide in oil prices and by the freezing of the credit markets: 

1. New rig contracts continued to be signed
2. Day rates remain elevated are are not showing signs of slippage
3. Contracts between rig owners and operators are stronger than the buy and sell-side think
4. Little to no incidence so far of renegotiations of contracts
5. NOCs (National oil companies), Majors, and U.S. Large Cap E&Ps are still taking the long view with regard to oil prices
6. M&A opportunities are approaching
7. Nutshell: this comes from three conference calls (CLB, NE, and DO) and I didn’t come away feeling like I’d been sold a package of goods.

In Today’s Post:

1. Holdings Watch - added DO calls to the 10KP
2. Commodity Watch
3. Natural Gas Storage Review
4. Odds & Ends

Holdings Watch: Holdings Wiki and 10KP Tabs are updated.

• Added (5) DO December $80 calls (DOLP) for $2.75 at the open with the stock up $3 on earnings and a hike to their special dividend and on the heals of a big drop in the last few days.

Commodity Watch:

Crude oil inched up $1.09 yesterday to close at $67.84 in advance of OPEC’s decision. This morning crude is trading down $4+ in connection with equity market futures and despite OPEC’s cut.

Natural gas fell like a stone yesterday despite a smaller than expected storage injection. Gas ended down a whopping $0.36 (5%) at $6.61. Selling started prior to the number’s release and my best guess is that the forced liquidation boogeyman came to visit multiple hedge funds as the November expiry on 10/29 approaches. The 12 month gas strip was off nearly 4% to 6.92, its first close below $7 since 2006. This should prompt more high profile capital budget reductions as the general accepted level for healthy vs non-healthy strip pricing had been thought to be about $8.

Natural Gas Storage Review

• EIA reported an injection to gas storage of 70 Bcf (I was looking for 70 and the Street was at 75).
• Storage now stands at 3,347 Bcf.
• There are three weeks left in the injection season and given the weather forecast we still look set to peak around 3.4 Tcf.

Odds & Ends

Analyst Watch: (RRC) upped to Buy at Stanford Re, (DO) upped to Buy at Deutsche Sec., Argus keeps (VLO) at Buy, cuts target from $42 to $24. (NOV) cut to Neutral at JPM,

Ok, I put together some thoughts on a group of MLP’s (Master Limited Partnerships) at the request of a number of subscribers. There are 50 or so U.S. MLP’s out there in various parts of the energy business but I limited myself to the upstream (E&P) variety as pipelines and midstream (processing) operations are not my normal ballywick. I’m very comfortable dissecting E&Ps and I took a list of 10 and weeded that down to six I might see investing in for the long term.

Where we are in the cycle. The MLP’s have been to hedge funds what money markets are to you and me, a place to deposit cash, only with a much better yield and a fairly predictable and safe one as long as commodity prices are flat or rising. Recently, hedge fund redemptions have pounded the shares. There is actually a MLP index, the Alerian MLP Index, ticker AMZ, which peaked at about 342 in mid July 2008 and hit a low of 151 on October 10 before closing at 220 yesterday. So its volatile. Look at how the index performed during and following the last few market implosions relative to the S&P500: (the index is blue and the S&P is yellow if you can’t make it out in the chart’s legend)

Source: LGCY

Still the names are beaten down and yields appear high. One thing I think many investors do when the sector is beaten down is pick the names with the highest yields. I like to say sometimes things are "cheap for a reason." Take QELP, which is not in following tables despite having the highest current yield at 30%. They’ve got lawsuits, they got financial irregularities, a complex structure to begin with and a CEO who quit when people started asking questions. But that’s the highest yield I could find.

Other metrics are helpful. The industry employs a few metrics in addtion to the ones normally looked at by E&P investors.

• Total Debt / Adjusted EBITDA. You want this one to be low as its essentially a measure of debt in relation to your annual cash flow.
• Adjusted EBITDA /  Cash Interest Expense. This one you want to be high as its basically a coverage ratio for your ability to make your interest payments. Everyone in the group below can easily make their interest payments but there are some MLP’s in the non-upstream names which come closer to having interest coverage problems.
• Yield…This Is Not Your Father’s Rate of Return. With the stocks pounded down by 1/3 to 1/2 from their peak cycle highs yields are still high. But the next ratio is most important in determining whether or not that distribution (like a dividend but different for tax purposes), and therefore their yield remains in place.
• Distribution Coverage Ratio. This is the ratio of distributable cash flow vs the company’s actual distribution. The higher the ratio the more room the company has if things turn temporarily lower to keep the distribution up. 
• LOE. Ok, lease operating expense is standard for E&Ps and I think of high importance when looking at upstream MLP’s. The lower the better.
• Reserve Life: Also standard for the E&P, this is a measure of reserves to production (measured in years). The higher this is, the lower your decline rate. Most upstream MLP’s focus on cash cow type properties so a reserve life of 20 is not uncommon. Shorter reserve life properties would mean the firm would need not only maintenance capital but acquisition capital shortly just to remain in business. All of the firms in the tables below have long reserve lives.

If I had to pick favorites, I’d go with size. Probably (LINE) first, which operates a majority of its properties and has a strong management team which impressed at IPAA despite the downtrodden environment, then (ATN) who is largely Marcellus focused and then (EVEP). Even after  the modest recovery of the last few days these names are yielding 17%, 13%, 17% respectively with some of the better distribution coverage ratios in the business ahd better than average operating expesenes, especially (ATN).