PWE - Penn West Petroleum

[sculpin]

Thought you guys might like this commentary from the IV boards by Nawar...

 

http://www.investorvillage.com/smbd.asp?mb=4143&mn=319202&pt=msg&mid=14395770

 

Why I bought PennWest

 

I have been asked to elaborate on my rational for taking a large position in PWT, however before I do that, I need to preface that I believe in peak oil theory, I believe the world has run out of cheap oil and that the global marginal cost of a barrel of oil exceeds $80 today (deep water, arctic and several shale plays). I also track the middle east closely (having been born there) and it is clear to me that the Sunni/Shia Muslim conflict will go on for a long time to come and oil supplies in the region will be effected on regular basis, and finally I believe many OPEC countries have political oil reserves that don’t exist in reality (I elaborate on some of those themes in my book “The bull of Heaven” for those who are interested).

 

As for why I believe PWT is a good investment, I am a value investor and thus highly attracted to undervalued stocks in any sector and especially so in the oil a sector, a sector I am very familiar with. With Pennwest being the largest Cardium lease holder, the company has been on my watch list since it traded at $20+ a share many years back, however I never pulled the trigger since I viewed the company management as inefficient and the company was too large for me to undertake an activist campaign.

 

Pennwest currently trade at 4.1 EV/DACF for 2014 vs. 9.7 EV/DACF for the sector (I am using 2014 in order to have a constant price comparison), meanwhile the company trades at 62% to NAV on 1P reserves vs 244% premium to NAV for the sector and even cheaper on 2P reserves basis. Meanwhile the company is trading at $44K per flowing barrel vs. $112K for peers and likewise for EV/barrel in reserves at $19.37 vs $38.5 for peers (Metrics derived from Scotiabank tables for their Intermediate E&P universe and dated November 17th 2014).

 

The above clearly indicates that PWT is undervalued on many metrics, but let’s face it, companies that are undervalued are a dime a dozen, buying a cheap company doesn’t not necessary lead to above average returns; what is needed is an understanding of the cause for that undervaluation, and whether steps are being taken to correct it. In the case of PWT, the causes for the undervaluation in my opinion were/are:

 

  Historically Incompetent management (addressed)

 

- Inefficient operator (addressed and being addressed)

 

- Fragmented asset base (being addressed)

 

- Too much debt (being addressed)

 

- Over distribution (addressed to some extent but still high)

 

- Lack of a clear long term plan (addressed)

 

 

We can see from the above that all those points have either been addressed or are being addressed, I strongly advice viewing PWT November presentation (http://www.pennwest.com/investors/presentations-webcasts) for those looking for an update on the progress on those issues.

 

Prior to the accounting restatement, and the decline in oil prices, the market was starting to recognize that the issues that plagued the company in the past were being addressed and the stock was on an upswing, the accounting hiccup stalled this rebound process and the collapse in oil killed it, yet the underlying improvements are on track. The management team in charge is extremely competent. I encourage reading some of the common sense statements that have been made by the CEO:

 

“This is a business about making money, not barrels and that’s a significant culture shift for this company and I think it’s going to continue to bear dividends as we go forward and that’s the reason why I don’t get too hung up on the short-term production issues.”

 

 

http://www.news1130.com/2014/01/23/penn-west-ceo-sees-big-culture-shift-away-from-output-toward-profitability/

 

“I tell people my Texaco pedigree sets me up to understand this stuff at a very basic level. We were known as the hardest of the hardcore operators – the idea of stretching everything to create margin is something that was just pounded into me from a very young age as an engineer.”....... “I think it is fair to say – and I’m not disparaging anybody who has run this place in the past – that we’re in the penalty box. I get that. Here is a company that has not kept its promises as well as it could have done. But what I say to folks is we’re going to make our own results here: we’re going to work hard, we’re going to work these assets hard, and people will start to understand that we are serious people who can be trusted to deliver results.”

 

http://albertaventure.com/2014/09/v250_penn-west-david-roberts/

 

Some of the above is music to my ears, I have been to Calgary several times and I have met with CEOs and board members and while many of them talk the talk of efficiency, few actually deliver. This CEO reminds me of the language used by the guys at Peyto, and it is not just talk, PWT is drilling a Cardium well today in 8 days vs 22 days in the past and a Viking well in 2 days vs 8 days in the past, this is a massive improvement and this is starting to show in the numbers.

 

The market right now is hung up on their balance sheet, yet the company does not have near term material term notes maturities and thus it has time to sell many of its none-core remaining assets, perhaps some of those will not be sold for great prices, but the market is far from pricing those at a premium to start with, I believe the $500m asset sales target by 2016 is very reasonable. The Peace River assets in partnership with China Investment Corp are quite attractive and Baytex has been very successful operating in that area along with Shell and Murphy Oil. I also believe their Duvernay assets are attractive with increasingly positive results from Talisman in the area and they also have the shale gas assets in BC which are looking more attractive now that BC is offering very attractive LNG terms and finally the Swan Hill oil assets are very attractive to several operators. The debt issue is not an issue anymore, not for this company anyhow.

 

Oil prices are currently lower than their planned 2015 budget which is set at $86.5 Edmonton Par at $1.04 exchange rate. However, the weaker Canadian dollar has offset to a large extent the weakness in WTI, meanwhile the upcoming reversal of Line 9B by Enbridge will further shrink the light oil differential with WTI for Canadian oil with 300K barrels per day going east (this is a very large amount when we consider Canadian light oil production is roughly 1.5m barrels in size and largely stagnant in size). However if oil prices remain weak the capex program could be slowed and their turnaround plan could be slowed, but this is a macro risk I am comfortable with.

 

The long term business plan outlined (and reiterated just last Monday) by the management is on track, the plan is realistic, achievable and very attractive projected 20% cash flow CAGR between now and 2019 (again I strongly recommend viewing the company November slides). Every day, the company is making progress; this is a copy paste from an email I got from Mr. Roberts yesterday:

 

“We continue to focus on doing the right things, the right way, each day – always with a view in enhancing the value of the company for our stakeholders.”

 

At this stage, the best thing a PWT investor can do is sit tight, and not track the stock minute to minute on the screen. I would advice checking the position once a quarter around the quarterly conference calls, and as long as the management is delivering the stock price will get there. For those who are patient, this stock could offer 300% to 400% return (ex-dividends) between now and 2017. As Jesse Livermore once said:

 

It never was my thinking that made the big money for me. It always was my sitting. Got that? My sitting tight! It is no trick at all to be right on the market. You always find lots of early bulls in bull markets and early bears in bear markets. I've known many men who were right at exactly the right time, and began buying or selling stocks when prices were at the very level which should show the greatest profit. And their experience invariably matched mine--that is, they made no real money out of it. Men who can both be right and sit tight are uncommon.

 

 

Good luck,

 

Regards,

 

Nawar

[sculpin]

And some Good commentary on the longer term effect of the current price drop...

 

http://www.investorvillage.com/smbd.asp?mb=4288&mn=151650&pt=msg&mid=14337781

 

Broken oil market - long term pirce spike

 

I have been following the oil market as long as I can remember. What’s going on right now in the oil market is highly suspect; prices are clearly being manipulated for political and economic gain. This attack on the oil market will have severe consequences on future oil supply, already at $100 oil, several major oil projects have been cancelled over the last few years, at $75-$80 all new major projects will come to a standstill at some point.

 

Yet, this is happening during a period in which the need for alternative long supplies is crucial, since the panacea of future oil supply: Iraq is going through a bloody civil war thus rendering any major investment in oil production infrastructure in the country highly uncertain. Meanwhile, the rivalry between Al Saud and Iran has never been more intense with Saudi Arabia surrounded by aggressive Shia forces in the South (Yemen), East (Iran) and North (Iraq). The Saudi-Iran proxy war currently taking place in Syria and to some extent Iraq is far from over. As if the situation is not bad enough Libya is sliding in a deeper civil war, a war that has already pulled Egypt and the UAE in the fight.

 

More worrisome, US shale production is projected to peak in the 2015-2017 time frame (probably faster at current prices) once this major source of production growth stalls a growing disconnect between supply and demand will emerge. Finally, the current sanctions on Russia have stalled and delayed multiple long term oil supply projects, the effect of those cancellations will be felt just as shale oil peaks.

 

The current opportunity to buy quality Canadian oil stocks (which have long been accustomed to low prices, and are currently being shielded to some extent by a low $CDN and narrow differentials) will prove to be a buying opportunity of a life time, anything bought today should be held until 2020 and beyond, because the next oil spike will take us beyond the 2008 highs in my opinion.

 

Regards,

Nawar

[Libs]

This is a very interesting idea....but may I play devil's advocate?

 

Can someone explain the dividend's sustainability to me - I'm not terribly good at the accounting...what am I missing?

 

Last quarter they had $180MM in 'depreciation and exploration" charges which wiped out any net income. This seems like the right number, as the plan next year is for ~$800MM in cap ex, and they do close to that every year. They NEED to do that every year, as has been discussed here.

 

So where is the cash for the dividend going to come from? From better execution / cost cutting etc.?

 

This is from Morningstar recently ( it's kind of harsh, although it should be noted they value the stock at $6), this is how they frame the concern:

-------------

 

...the firm’s dividend, which

is greater than net income and reduces the book value

equity. Over the past five years, dividend payments have

exceeded net income by nearly CAD 2.2 billion. The firm

issued CAD 1 billion of new equity over the same period,

which helped it maintain a more conservative leverage

ratio. We forecast that dividends (at their current level)

will exceed net income by CAD 380 million from 2014 to

2018. We think this puts management between a rock and

a hard place: Slash the dividend again or continue to issue

new equity to fund it and maintain a reasonable degree of leverage on the balance sheet.

---

They also write:

------

Penn West’s dividend implies a yield

on its stock of over 11%. The annual liability associated

with this obligation amounts to roughly CAD 225 million

in 2014 and rises to CAD 276 million in 2015, a truly

remarkable commitment when viewed against our

estimate of cumulative cash flow generated for the

2015-2018 period of negative CAD 21 million (excluding

potential non-core divestitures, which appear likely if not

essential to sustain operations).

Interestingly, when pressed on its earnings call regarding

the sustainability of its quarterly dividend under a scenario

of sustained lower crude pricing, not only did the company

declare the dividend perfectly safe and essentially off the

table for consideration, but also went a step further in

implying it would sooner rein in investment in its assets

than so much as consider a cut to its dividend.

-------------------------

 

Thanks for any insights.

 

[Fat Pitch]

Many E&Ps must spend every cent they earn from OCF to maintain their current production profiles. This demonstrates how marginable their assets are. I think PWE is no different. The dividend is being paid out of asset sales/debt. This is why companies like SU held up during the oil sell off.

 

This is why quality aka low cost is king in commodity investing.

 

[Libs]

Many E&Ps must spend every cent they earn from OCF to maintain their current production profiles. This demonstrates how marginable their assets are. I think PWE is no different. The dividend is being paid out of asset sales/debt. This is why companies like SU held up during the oil sell off.

 

This is why quality aka low cost is king in commodity investing.

 

Ok, thanks...so how do they get out of this dividend 'trap'?

 

You can only devour your assets, or take on additional debt, for so long. What's the end game, other than praying for oil prices to rise?

 

Just trying to understand how to think about this. Otherwise I see a lot to like here..

 

 

 

 

 

 

 

 

 

[Fat Pitch]

They can always cut the dividend, but that’s irrelevant at this point. You have a business that must spend every cent it produces to just run in the same spot… there’s nothing left over for shareholders. Of course higher oil prices will cure this dilemma. 

 

This is a scratch n sniff sticker on higher oil prices.

[alertmeipp]

How much time do you guys spend on pennwest before making the above comments?

[Libs]

How much time do you guys spend on pennwest before making the above comments?

 

My problem isn't time spent, it's lack of knowledge :)

 

How do you view the dividend issue? What are we missing?

[Uccmal]

Fat Pitch indicates that Pennwest is a bet on the oil price going back up at some point.  That is part of the picture.  He also indicates that Suncor has done okay in this environment, so far. 

 

Suncor was built into this stable powerhouse by Rick George who just happens to be the COB of Pennwest.  My bet involved in Pennwest involves managements ability to bring Pwt closer to the Suncor model of management. 

 

So what happens if oil continues to drop in price?  In Alberta, workers get laid off as property gets shut in.  Wage costs drop with the surplus of workers.  Expenses drop with less capex, less exploratory drilling etc.  Equipment cost and rental costs drop.  The existing production costs drop, lagging the oil price drop by a few months.  For Pennwest and other majors it is a temporary squeeze.  For many smaller E&P companies a drop in oil price is the death knell.  No bank or group of investors is going to force PWT to suddenly repay its debt at less than market value. 

 

The other side of the equation is gas price which is high and stable, so far. 

 

My bet is that PWT keeps slowly delevering into a more stable situation.  When oil inevitably swings upwards in value PWT will rise dramatically.  I am figuring the stock is easily a 300% gain. 

 

At some point the cost management will get reflected in the cash flow, and in the EPS.  Especially if the price of oil rises.  George and Roberts are not inexperienced with oil busts.  And both are buying stock continuously in PWT. 

 

Is the dividend safe.  I have my doubts but it needs reminding that the actual payout is 80% of the headline number due to the Drip.  The debt has been brought down by asset sales and by cash flow.  I am not seeing that the dividend is being paid out of asset sales.  These companies get favourable tax regulation such that EPS is not a good measure of available cash. 

 

This is a value investment in the true sense of the word.  We are buying a company way below its NAV, during a mild oil bust.  PWT is way ahead of most in deleveraging.  Most only start at this point in a bust.  So two upsides exist:  The oil price itself, and the ongoing cleanup of PWT. 

[Sunrider]

.... would you apply a similar logic to LTS.TO? I take it the management team receives mixed reviews but their netbacks seem to be great compared to PWT and others ...? Saw a write-up on buysidenotes.com a while ago and the thesis is that they are actually hitting a sustainability = 100% some time this year/early next.

 

Thanks - C.

[SharperDingaan]

Just back from a brewing gig making Trooper; the beer of champions!

 

Thanking my lucky stars for hedging everything before we went, PWE included.

Its hard to see why PWE would not just cut the div, as the opportunity is heaven sent. It is highly likely that they will be just one of many cutting, but if/when the div is cut - PWE will drop like a brick. If it drops 1/4 to 1/3 it is going to be pretty hard to find something else with a similar quality/price ratio.

 

SD

[Uccmal]

.... would you apply a similar logic to LTS.TO? I take it the management team receives mixed reviews but their netbacks seem to be great compared to PWT and others ...? Saw a write-up on buysidenotes.com a while ago and the thesis is that they are actually hitting a sustainability = 100% some time this year/early next.

 

Thanks - C.

 

Dont know LTS.  PWT caught my eye when I learned Rick G. was in charge.  I was price comparing and saw that Penn Growth is in a very similar situation. 

 

Just back from a brewing gig making Trooper; the beer of champions!

 

Thanking my lucky stars for hedging everything before we went, PWE included.

Its hard to see why PWE would not just cut the div, as the opportunity is heaven sent. It is highly likely that they will be just one of many cutting, but if/when the div is cut - PWE will drop like a brick. If it drops 1/4 to 1/3 it is going to be pretty hard to find something else with a similar quality/price ratio.

 

SD

 

Its being priced for the dividend cut now.  Unfortunately management has backed themselves into a corner a bit by insisting the dividend is covered, as recently as last week. 

[doc75]

Its being priced for the dividend cut now.  Unfortunately management has backed themselves into a corner a bit by insisting the dividend is covered, as recently as last week.

 

In my experience, dividend cuts are never "priced in".  Regardless of how expected the cut may be, it seems there's always an enormous drop in price once the hammer falls.  That said, there is very often a reasonably prompt rebound.

 

Agreed that management has painted themselves into a corner here.  I really don't understand why they'd do that.  Surely they understand that integrity and follow-through is of the utmost importance, so I was surprised they didn't temper their statements regarding the dividend.  As SD said, they couldn't find a better time to knock it back a little bit. 

 

 

 

[cashisking]

FWIW...

 

PWE (US traded) puts are offering the following returns to those willing to "underwrite" the stock:

 

• Jan 20, 2017 $3.5 Puts - $1.15 premium (at the bid) ~23% annualized return, or 26% annualized if written at midpoint of bid/ask ($1.3 premium)
  
• Jan 15, 2016 $3.5 Puts - $1 premium (at the bid) ~35% annualized return
  

 

Might be interesting to write cash backed puts and buy OTM leaps vs just buying the equity... One would not get the dividend in this scenario...

 

[plato1976]

Quiet here. So is it fair to say that we surrendered?

 

 

.... would you apply a similar logic to LTS.TO? I take it the management team receives mixed reviews but their netbacks seem to be great compared to PWT and others ...? Saw a write-up on buysidenotes.com a while ago and the thesis is that they are actually hitting a sustainability = 100% some time this year/early next.

 

Thanks - C.

 

Dont know LTS.  PWT caught my eye when I learned Rick G. was in charge.  I was price comparing and saw that Penn Growth is in a very similar situation. 

 

Just back from a brewing gig making Trooper; the beer of champions!

 

Thanking my lucky stars for hedging everything before we went, PWE included.

Its hard to see why PWE would not just cut the div, as the opportunity is heaven sent. It is highly likely that they will be just one of many cutting, but if/when the div is cut - PWE will drop like a brick. If it drops 1/4 to 1/3 it is going to be pretty hard to find something else with a similar quality/price ratio.

 

SD

 

Its being priced for the dividend cut now.  Unfortunately management has backed themselves into a corner a bit by insisting the dividend is covered, as recently as last week.

[tengen]

I'm just admiring the loss I have incurred since buying earlier in the year.  Every time I thought it couldn't go lower, something happened and it went lower.  >:(

 

Not selling but will reassess my outlook in the new year. Surely it can't go lower.  ;)

[indirect]

Benj at Contra the heard put out a buy this AM for his subscribers upto $4.00 with a sell target of $21

[Myth465]

I'm just admiring the loss I have incurred since buying earlier in the year.  Every time I thought it couldn't go lower, something happened and it went lower.  >:(

 

Not selling but will reassess my outlook in the new year. Surely it can't go lower.  ;)

 

This sums up my position.

Its getting a bit irrational, but Mr. Market can stay there longer than I can stay solvent.

 

I wonder how many cashed up entities are out there sniffing around the oil patch. Everything is truly on sale.

[alertmeipp]

Quiet here. So is it fair to say that we surrendered?

 

 

.... would you apply a similar logic to LTS.TO? I take it the management team receives mixed reviews but their netbacks seem to be great compared to PWT and others ...? Saw a write-up on buysidenotes.com a while ago and the thesis is that they are actually hitting a sustainability = 100% some time this year/early next.

 

Thanks - C.

 

Dont know LTS.  PWT caught my eye when I learned Rick G. was in charge.  I was price comparing and saw that Penn Growth is in a very similar situation. 

 

Just back from a brewing gig making Trooper; the beer of champions!

 

Thanking my lucky stars for hedging everything before we went, PWE included.

Its hard to see why PWE would not just cut the div, as the opportunity is heaven sent. It is highly likely that they will be just one of many cutting, but if/when the div is cut - PWE will drop like a brick. If it drops 1/4 to 1/3 it is going to be pretty hard to find something else with a similar quality/price ratio.

 

SD

 

Its being priced for the dividend cut now.  Unfortunately management has backed themselves into a corner a bit by insisting the dividend is covered, as recently as last week.

 

There is really not much to say. I bet many didn't surrender, some might have added. But there is just nothing to show. Sentiment shifted a lot in last few weeks, the demand/supply picture that I see should not warrant 40% drop.

 

Two years out, some of the companies we talked about here might no longer exists, some may be trading multiple times the current trading price.

 

 

[Viking]

Interesting that oil stocks continued to get punished (down 5%) even with oil prices rising a fair bit (3%). Crazy how the oil and gas assets are getting repriced so dramatically in 4 short months.

[Uccmal]

I'm just admiring the loss I have incurred since buying earlier in the year.  Every time I thought it couldn't go lower, something happened and it went lower.  >:(

 

Not selling but will reassess my outlook in the new year. Surely it can't go lower.  ;)

 

This sums up my position.

Its getting a bit irrational, but Mr. Market can stay there longer than I can stay solvent.

 

I wonder how many cashed up entities are out there sniffing around the oil patch. Everything is truly on sale.

 

Me too.  I sold my original common position at a loss, bought a few leaps, waited the requisite 30 days, and started buying the common again.  I am down 25% on the new cheaper price. 

 

I wonder what Rick G. would take on a buyout?  Since his purchase price is around $8.00 I would think he would want $11.00 or so. 

 

Glad to hear Contra the Herd is/was buying. 

[Eye4Valu]

Who is Rick G.? That's not Rick Guerin is it?

[Uccmal]

Who is Rick G.? That's not Rick Guerin is it?

 

PWT Chairman.  Former CEO Suncor.

[SharperDingaan]

We're just sitting tight until the tax selling starts, & the year-end numbers get published.

 

SD

[sampr01]

Here is an interesting article on Oil with demand and supply graph

 

http://www.valueplays.net/2014/12/01/oil-oil-oil-2/