ARC Resources Ltd T.ARX

Scotia bullish on ARX

[Westcoastenergy]

It's a Good Time to Buy Natural Gas Equities, But Mind the Volatility

OUR TAKE: Positive. We believe the bottoming of Henry Hub prices in September 2024 signaled the end of a ~two-year bear market and the beginning of a two plus year bull market that will push natural gas prices higher in 2025 and 2026, before reversing course in mid-2027. However, we see a handful of factors that could either amplify the bull run and move prices higher than our forecasts or reverse it and push prices lower, extending the bear market. See our companion report, Natural Gas: What Could Go Right? What Could Go Wrong? And Why Volatility Is Here to Stay for detailed analysis on the commodity. Despite our expectation for high natural gas price volatility, we believe this is the right time for equity investors to add more natural gas exposure. Based on our analysis, we see PEY as the top low volatility gas-levered name (or NFG in the U.S.) and AR as the top high torque name. Among the names with moderate volatility to natural gas price changes, we like AAV, TOU, EQT, and RRC. Among the balanced to oil-levered names, we see TPZ and ARX as the top options.
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• ARX is on the cusp of a major inflection point with the Attachie project slated to be placed online in Q4/24. As a result, we have the company with >10% free cash flow yields in 2025E and 2026 on strip prices and ~balanced volatility to natural gas and oil price changes. We expect ARX to return substantially all of its free cash flow to investors with sustainable dividend increases and share repurchases over the next couple of years. The company has a mix of Upper Midwest, AECO, fixed price, U.S. Southeast, and U.S. Pacific Coast price hub exposure in 2025.

 

Assessing risk and reward. We have used the commodity volatility framework discussed in our June 5, 2024, report, Valuation versus Volatility (link) to examine the sensitivities to natural gas price changes for key metrics for our coverage names (see Exhibits 2 to 7). For cash flow and net income we see NFG and PEY as the lowest volatility natural gas exposed names and TPZ with low to moderate volatility to both oil and natural gas price changes. BIR and CHK screen as the highest volatility natural gas exposed names, while AR exhibits high volatility to both oil (proxy for NGLs) and natural gas price changes. We see TPZ (balanced oil and gas), PEY, AAV, and ARX (balanced oil and gas) with the most attractive free cash flow yield versus metric volatility combinations for 2025E and AR (balanced oil and gas) with a high risk / high return proposition, followed by BIR (gas exposed). Among names in the middle, we see TOU, RRC, and EQT offering the best exposure.

• TOU, ARX, and NVA have the most U.S. Pacific Coast market exposure, while EQT, CHK, and CNX have the most U.S. Northeast exposure.

Scotia has a $34 target for ARX shares.