TD Waterhouse report...12 month target price remains $3
Surge Energy Inc. (SGY-T) C$2.51 Q4/15 Miss - Dispositions Delay the Inevitable
Event
Surge announces 2015 year-end results and subsequent asset dispositions.
Impact: MIXED Q4/15 CFPS and production came in below our expectations. CFPS of $0.06 was below our forecast of $0.07 and consensus of $0.08 (Bloomberg, 12 estimates), as lower opex was offset by lower production, realized pricing and cash stock-based compensation. Dispositions further shore up the balance sheet without sacrificing net cost efficiencies. Subsequent to year-end, Surge announced the disposition of non-core assets at Sunset (700 BOE/d of Montney oil previously acquired from Longview) for $28mm. We believe the implied metric of $40,000/BOE/d is attractive owing to limited significance to Surge and in the context of the current environment as supported in our publication: Assessing the Outlook for M&A in 2016 - Dec 21, 2015. Subsequent to year-end, Surge also divested certain production facilities at Valhalla for $15mm, while retaining operatorship for an annual tariff. The increased operating costs are expected to be offset through the use of a recently completed pipeline connecting Valhalla production to lower cost facilities to the north of the field. In January, Surge also announced the monetization of a 1,000 bbl/d WTI collar for proceeds of $4.7mm. We estimate that the company now has 58% of 2016 production hedged (net of recent dispositions). $33.2mm dividend ($0.15/share) remains unchanged at the risk of an elevated payout ratio in 2016. The above mentioned transactions add financial flexibility to a relatively healthy balance sheet previously supported by a large asset disposition in southeast Saskatchewan in early 2015. However, a $33mm dividend and a $50mm capital program in 2016 equates to an all-in payout ratio of 145% in 2016, based on our US$47/bbl WTI forecast (279% under strip pricing). Revised guidance is expected following the closing of the dispositions (expected by end-Q1), although it seems plausible that either the dividend, capex, or both get 'reset' to more appropriate levels for the current environment.
TD Investment Conclusion:
The quarter was a miss relative to our numbers and consensus but Surge also spent less than expected, resulting in lower-than-forecast net debt. Surge has historically been active on both acquisitions and divestitures, with the recent announcements adding $48mm in liquidity to the balance sheet and delaying the inevitable need for a dividend realignment. That said, Surge's business strategy has been clear at the outset, with the dividend taking priority, and as such, we believe that the company will exhaust all other options before a cut (including the creative transactions announced yesterday). Our target price of $3.00 is unchanged and we remain BUY-rated based on a 26% return to the target price.