SGY a top pick from Dundee this has been out for a while but it's worth sharing again...
Recommendation and Valuation
We rate Surge Energy with a BUY rating and an $8.50 target price. Our target is based on a 2014E EV/DACF multiple of 6.5x which represents a 48% return to the recent closing price. The stock offers a compelling 9.7% dividend yield and based on our 2014E estimates trades at a 5.7x EV/DACF multiple and $91,304 per BOE/d, discounts to the Dividend universe at 7.5x and $106,738. We consider Surge to be a TOP PICK within the Dividend Paying universe.
Corporate Profile
Surge is an 84% oil weighted E&P company which has transitioned to a dividend paying corporation earlier in 2013. The company has a diversified portfolio of oil weighted properties in western Canada, most notably in Valhalla, SE Alberta, the Shaunavon and the Williston Basin. Recently, the company announced its intention to acquire Longview Oil for $429 million (incl.
$155 million of debt and transaction costs) which has complimentary assets to Surge, most notably core acreage in SE Sask. Closing is expected early June.
Transition into a Solid Sustainable Dividend Model
Concurrent with the Longview acquisition, Surge intends to bump its dividend to $0.60 per share (from $0.54) and on our 2014 estimates, results in a total payout ratio of 85% (spending ~40% of cash flow on dividends) with no DRIP, positioning it as one of the most sustainable dividend payers in our coverage universe.
In 2015, we estimate ~$40 million ($0.18 per share) in excess capital for debt reduction, dividend increases, acquisitions or capex acceleration for additional growth (likely in that priority).
Longview Acquisition Accretive Across the Board
The Longview acquisition adds 6,100 BOE/d (82% oil) of low decline (~22%) production, the majority of which are in key areas Surge views as core. Overall, Surge estimates the acquisition adds 375 MMBbls of net OOIP, bringing the company's total to over 1.8 billion barrels. We believe the SE Sask assets have the most appeal and hold the most value. LNV has over 105 (88 net) sections of land along the Midale fairway, 62% of which having direct mineral title ownership (zero royalties). The most recent acquisition in the area (Vermilion acquiring Elkhorn) had metrics of $106,700 BOE/d, implying a value of $280 million for LNV's SE Sask portion (65% of the total deal value while contributing 43% of total production).
Upcoming Catalysts
Surge will be releasing an ops update next week following an active Q1 drilling season, looking for results in the Shaunavon (Upper and Lower), Valhalla, Nipisi, and SE Alberta.
Reason to Buy
We believe Surge is a BUY at current levels for the following key reasons:
• One of the most sustainable dividend payers in our coverage universe
• Oil-weighted producer with diversified core areas
• Multiple waterflood projects that will stem corporate decline
• Robust hedging portfolio insulating commodity fluctuations
• Discount valuation relative to dividend paying firms despite superior sustainability ratios