Is There Hidden Value in This Oil E&P Play?

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In the third quarter 2012, Dan Loeb, a famous hedge fund manager that gained more than 21% for his investors in 2012, showed a bullish attitude for Murphy Oil (NYSE: MUR). He bought more than 4.85 million shares, at an average price of $52.80 per share. Murphy Oil had become his fifth biggest position, accounting for 5.1% of his total portfolio in third quarter 2012. Why does he like Murphy Oil? Should we follow him into this oil and gas company?

Business Snapshot  

Murphy Oil is considered to be a global oil/gas exploration and production company with operations in many countries, such as the US, Canada, Malaysia, Republic of Congo, the UK, etc.; with several main businesses including Exploration and Production; and Refining and Marketing. In 2011, its production of crude oil, natural gas liquids and condensate globally was around 103,160 barrels per day. The total proved reserves of Murphy Oil is 534 million BOE, with 65% in oil. The majority of its oil and gas revenue was from Malaysia, with more than $1.58 billion in oil and gas liquids, and $461.3 million in natural gas sales. Canada was the second biggest revenue source, with $505.6 million in conventional oil and gas liquids, $506.6 million in synthetic oil and $280.2 million in natural gas. Among those areas, the highest production expense was synthetic oil, with $49.91 per equivalent barrel. United Kingdom and Republic of Congo had the second biggest production costs, of $26.24 and $26.04 per equivalent barrel, respectively.

In terms of income contribution, the majority of the income was from exploration and production segment, of $625.7 million, whereas the biggest net income was still from Malaysian segment, of $812.7 million. The Refining and Marketing segment contributed only $190.3 million, accounting for 21.8% of the total income for fiscal 2011. The business is quite conservatively structured. As of September 2012, it had more than $9.6 billion in total stockholders’ equity, $1.3 billion in cash and short-term investments, and only $1.18 billion in long-term debt. Thus, it had net cash for more or less $100 million.

Dan Loeb’s Four Transactions to Unlock Murphy’s Value

Dan Loeb, in the third quarter letter, has suggested four actions, which could unlock the hidden value of the business. First was to spin off the retail business. The retail business had a network of more than 1,100 fuel stations, which mainly located around Wal-Mart stores. It was a cash cow business, with more than $360 million EBITDA generated in 2011 with little capital requirements.  Dan Loeb estimated that the retail business would be worth around $2.3 billion - $2.8 billion if it were a standalone public company, creating $12-$14 per share. Dan Loeb mentioned that he filed for HSR approval to increase position if he wished. Second was to sell the 145,000 net acres in British Columbia, Canada. During the low gas price environment, EnCana (NYSE: ECA) has sold 164,000 acres nearby to Mitsubishi for C$2.9 billion ($2.94 billion), valuing each acre at C$16,000 ($16,230). He said if this valuation applied to Murphy Oil’s Canadian natural gas asset, plus around $4,000 per flowing mcfe/d for existing production, the asset would be worth $15 per share. Third was to exit its 5% stake in Syncrude Oil Sands project. Dated back 2010, when the WTI crude were $84/bbl, ConocoPhillips (NYSE: COP) sold 9% stake in this project for $4.65 billion. Even now the WTI crude is higher, of $92/bbl, if we assumed the same valuation with the lower previous WTI crude oil price, its 5% stake in Syncrude would be worth $2.58 billion, or $13 per share. Last but not least, Murphy should complete its exit in UK Refining business to free up $500 million in working capital. Dan Loeb estimated that Murphy could have $7.3 - $7.8 billion in after-tax proceeds, or $37 - $40 per share. After four transaction completed, with the “extremely conservative 3.5x EBITDA multiple”, he thought that the total value would be $91 - $94 per share.

Currently, at the current trading price of $60.81 per share, Murphy Oil is worth $11.82 billion in the stock market. The market is valuing the company at nearly 3.5x EV/EBITDA. ConocoPhillips, its larger peer, is valued similarly in the market, of 3.22x EV/EBITDA. Encana seems to be the most expensive, with $14.64 billion in market capitalization and 6.7x EV/EBITDA.

Foolish Bottom Line

Dan Loeb’s thesis for investment in Murphy Oil was quite clear, as he described in his letter to shareholders. Indeed, the sum-of-its-parts is larger than the current market valuation right now, and what he suggested was to unlock Murphy Oil’s hidden value. Murphy Oil could be one of the value oil/gas plays for patient investors.

hoangquocanh has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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