Here’s Why We Think EOG Resources Is Worth $106 Per Share
While the rest of the oil and gas industry is struggling to weather the ongoing commodity downturn, EOG Resources (NYSE:EOG) is among the few companies that have seen a gradual rise in their stock price since the beginning of the year. The US-based oil and gas producer’s stock has grown almost 50% in the year so far, while the S&P 500 Index (Energy Sector) recovered only 22% during the same period. This clearly indicates that the market and investors are confident about the company and its ability to generate value for them. Thus, based on the company’s latest performance and guidance, we have revised our price estimate for EOG to $106 per share. Below, we discuss our rationale behind the upward revision and the company’s growth prospects.
Higher Production Growth Due To Yates Acquisition
According to its latest investor conference, EOG has managed to increase its Delaware Basin resource estimate to close to 6 billion barrels of oil equivalent (boe) from 2.35 billion boe last year, primarily due to the acquisition of Yates acreage in the region. The deal, that was announced in September of this year, is likely to double EOG’s position in the Delaware Basin in southern New Mexico and West Texas and increase its position in the Permian and adjacent plays by more than 200,000 acres.
This steep growth in the resource estimate has enabled the company to raise its outlook for oil production growth over the next four to five years. Earlier, the company had expected to expand its oil production at 10%-20% between 2017 and 2020. However, now the oil and gas company aims to grow its oil output by 15%-25% over the same period, assuming that the crude oil prices become sticky in the range of $50-$60 per barrel.
Given that the Organization of Petroleum Exporting Countries (OPEC) has finally decided to cap their production, we expect the crude oil prices to recover and remain in the range of $50-$60 per barrel over the next few quarters. As a result, EOG’s target to expand its oil production is well timed and will enable the company to take advantage of the recovery in commodity markets.
Focus On Premium Locations
Apart from adding to EOG’s existing resource base, the Yates deal will augment the company’s plans to improve its well productivity by building a strong inventory of premium locations. A premium drilling location, as defined by EOG, is a location that generates a direct after-tax rate of return of at least 30%, assuming crude oil prices to be at $40 per barrel. This deal will immediately add roughly 1,740 net premium drilling locations to the company’s existing 4,300 premium drilling locations. As a result, the company will now have a total of roughly 6,000 premium drilling locations, implying a drilling inventory to more than 10 years.
EOG’s Premium Drilling Locations (Post Yates’ Deal)
Further, in order to further expand its premium drilling inventory, the oil and gas producer is constantly working towards either converting its existing locations into premium locations by using longer laterals, and innovative technology, or is increasing its exploring activities in its key basins such as the Delaware Basin and Eagle Ford. The access to these higher margin drilling locations will enable the company to generate higher returns for its shareholders in the current low price environment and provide a huge upside to its valuation when the commodity markets finally rebound.
Optimization of Operating Costs
In order to sustain its operating margins in the commodity down cycle, the Houston-based company has been consistently using more efficient rigs to drill its wells. This allows for multiple operations to be conducted at the same time, reducing both the time spent and costs incurred per well. As a result, the oil and gas producer has managed to realize significant cost savings over the last few quarters. To put things in perspective, EOG has managed to bring down its cash operating costs per unit from $17 per boe in 2014 to a little over $12 per boe in the year to date.
Given these impressive capital efficiency gains, the company has revised its completed well cost targets for its major basins. For instance, in the Bakken region, the oil and gas producer has witnessed significant cost efficiencies and aims to record well costs of $4.8 million in 2016, almost 27% lower than its prioir guidance of $6.1 million. Also, in the Eagle Ford basin, EOG now expects its completed well costs to be around $4.5 million, lower than its previous target of $4.8 million.
Based on EOG’s excellent execution skills and success so far, we expect the company to achieve its cost reduction targets for the year, which will result in a strong improvement in its operational performance for the year. While some of these cost efficiencies may disappear when the commodity prices bounce back, majority of these are permanent in nature and will provide a cost edge to EOG in the long term.
Returning Value To Shareholders
Between 2013 and 2015, EOG generated a return of approximately 9% on its capital employed as opposed to an industry average of 5.2% during that period. Further, it is among the few oil and gas majors, who have continued to pay dividends to its shareholders, despite the trough in the commodity markets. With its consistent efforts over the years, EOG has managed to bring down its break-even oil price to around $30 per barrel in its key basins. A low break-even price, coupled with a strong inventory of premium drilling locations, will enable the company to deliver higher returns than most of its peers.
Thus, we figure that with high quality assets, strong execution skills and a focused management, EOG Resources is likely to cruise through the turmoil in the commodity markets without much difficulty and will be good bet for investors in the long term.
Have more questions about EOG Resources (NYSE:EOG)? See the links below:
- EOG Resources 3Q’16 Results To Show Improvement Driven By Higher Price Realizations
- Why Is EOG Resources Acquiring Yates Petroleum Corp.?
- Why Has EOG Resources’ Capital Efficiency Improved Despite The Commodity Downturn?
- Here’s Why We Are Bullish On EOG Resources
- EOG Resources’ 2Q’16 Earnings Improve On The Back Of Higher Price Realization And Production
- How Will EOG Resources’ Production Trend Over The Next Few Years?
- How Will EOG Resources’ Revenue Move If Crude Oil Prices Rebound To $100 Per Barrel By 2018?
- How Will EOG Resources’ Revenue Move If Crude Oil Prices Average At $50 Per Barrel Till 2018?
- EOG Resources Posted Weak 1Q’16 Results Driven By Ongoing Commodity Downturn
- Expect Another Weak Quarter From EOG Resources On The Back Of Depressed Commodity Prices
Notes:
1) The purpose of these analyses is to help readers focus on a few important things. We hope such lean communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for EOG Resources
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