TD Waterhouse revisited
I thought I'd repost the TD Waterhouse Action Note from yesterday, since it became buried by dozens of other comments. I am surprised that many of these later comments simply declared "RPL is another PBN!" or "the stock is heading for a dollar". If you do not like the TD analysis, there are many other analyses out there basically stating the same thing. If you do not agree with any of the brokerage houses, then please present your own rational analysis, but please defend it point by point, as set out by TD.
Renegade Petroleum: Still Producing 8,000 BOE/d - Great IPs from SE Sask. Event
RPL announced Q4 results last night, including year-end reserves, and an operational update that supports robust production rates from its assets. However, net debt was higher than we had anticipated, and without any other significant changes to our forecast, our target drops to $3.00 (from $3.25). Our thesis and BUY recommendation remain unchanged.
The highlights are:
1) Current production remains in the 8.0 mBOE/d target rate, unchanged from the December exit. In our view this supports the stability (maturity) of the production base and capacity for RPL’s underlying assets to sustain the company’s newly adopted dividend model.
2) Due to variability associated with the closing of the Queensdale acquisition, production and CFPS were a beat, while netbacks were lower than expectations. Additionally, transaction costs directly associated with the acquisition relative to our estimates resulted in net debt that was significantly higher than our forecast.
3) Results from two conventional Mississippian wells drilled in Q4/12 in SE Saskatchewan are significantly above type curve, and should be supportive of lower (i.e., better) capital efficiencies.
Details
Production remains in line with forecast. Upon announcement of the transaction, RPL guided to an exit rate of 8.0 mBOE/d, which it met in December. In our view, the market was skeptical of the company’s capacity to do so, but RPL has in fact been able to sustain this target rate through March. Having reviewed the public monthly data through January, we are comfortable in the low decline nature of the underlying asset. We believe that a 25% corporate decline is very realistic, although the onus is on RPL now to prove that it can meet, or exceed, the implied capital efficiency target required to sustain production at this 8.0 mBOE/d mark.
Conventional multi-leg horizontals continue to outperform type curves. Recent multi-leg horizontal well results from the Souris Valley and Frobisher trends are supportive, with most recent IP90 rate of 240 bbl/d and IP60 of 140 bbl/d, respectively, relative to RPL’s budget IP30 rate of 54 bbl/d. Recall that each of these wells cost $1.3mm and pay out in less than 1.5 years.
Net debt is slightly above average, but manageable, in our view. We have frequently cited 2.0x net debt/cash flow and 20% credit availability as being appropriate benchmarks for balance sheet safety. 2012 year-end net debt was higher than we had anticipated due to costs and adjustments associated with the Queensdale acquisition, which we would like to remind investors virtually doubled the size of the existing company.
We estimate that by Q4/13, RPL will be operating at 2.3x net debt/cash flow and have 20% available on the current bank line of $325mm, based on our 2013 Edmonton Light assumption of $81/bbl. YTD, the commodity has averaged closer to $88/bbl; running this through our models would improve these metrics to 1.9x and 25% available credit capacity. This is not a significant departure from the peer group averages of 2.2x and 30% credit availability. Lastly, the company has been active on the hedging front and currently has 62% and 49% of gross production hedged in each of 2013 and 2014.
Furthermore, we point out that this debt position was not a function of operational mismanagement, but rather the cost of entry into the company’s new strategy. As such, we are less inclined to be punitive in this regard, and RPL is already undertaking steps to address its balance sheet. In Q1/13, RPL signed a definitive agreement to sell a non-core asset for $13mm in cash that goes straight to debt repayment. Another lever to pull includes the potential to monetize its non-core Senex Slave Point asset in Northern Alberta, which was acquired in late 2011/early 2012. Lastly, the Dodsland Viking continues to be a highly sought after play, in our opinion, and could be an option available to RPL, whether they want to (need to) use it or not.
Outlook
Our 2013-2014 estimates do not change materially, but reflect the higher-than-expected net debt and $13mm non-core disposition in Q1.
Justification of Target Price
Our target price reflects a base valuation of $2.81 that combines our NAVMG of $2.67 at a 65% weighting and $3.07 using an EV/DACF multiple of 7.0x 2013E DACF at a 35% weighting. This is then adjusted by a subjective factor of 5% (within a range of +/-25% for the sector) to arrive at our calculated target price of $2.95 (rounded to $3.00).
TD Investment Conclusion
Given the state of the current markets and the challenges facing other dividend paying E&P to fund their capex and dividend obligations, we believe that the market is overly penalizing RPL. We continue to believe that RPL’s asset base is supportive of such a model, but acknowledge that investors are cautious given such a short history of management in running this type of investment vehicle. We are reducing our target to $3.00, largely on the back of a higher 2012 year-end net debt and its ripple effect through our forecast. That said, our BUY recommendation remains unchanged.