Should This Energy Underdog Take These Threats Seriously?
Matthew is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
(This article is part 5 in a series drilling down into Rex Energy through a SWOT analyis)
Rex Energy (NASDAQ: REXX) is not without its detractors. No company ever is--that’s what makes a market. However, investors can’t just gloss over the threats that a company is facing. In the continuation of this in depth look at Rex Energy we’ll drill deeper into the treats the company is facing while keying in on their biggest treat of all.
While Rex is well hedged for next year, a plummet in commodity prices could really affect the company. Right now liquids are the hot commodity and their growing opportunity here is threatened by price. They’ve only hedged 27% of their total liquids production though 2013, with most of that being propane.
Just one quarter ago, several companies experienced significantly lower NGL prices. In one example, Linn Energy (NASDAQ: LINE) reported a 34% drop in realized prices for their NGL volumes year-over-year, which was significant for the company as it caused their distribution coverage ratio to drop by 0.18 times, or 15.6%. Linn is notoriously one of the best hedged domestic producers because their business model is such that they use “commodity hedging to capture cash-flow margin and reduce cash-flow volatility.” Now, if Linn, who is an expert at hedging, has trouble adequately hedging NGL production it shows the potential threat to Rex.
As a small company Rex will always struggle with access. On their last 10-Q they list “availability of gathering and transportation pipelines and processing and other midstream services” and “availability of equipment, such as drilling rigs and related equipment and tools” as two of their risk factors. Access to adequate midstream services is important, and that’s why their deal with Markwest (NYSE: MWE) is so important. They will see a 25% increase in realized prices by hooking into their pipeline versus what they were realizing by shipping product by truck or rail. If they lost that access or access to any other services it would have a greater impact on their business than a larger peer.
Environmental and Legal Risks
Again from the 10-Q, they list “effects of government regulation, permitting, and other legal requirements,” “environmental risks,” and “uncertainties associated with our legal proceedings and their outcome.” In Pennsylvania, for example, the state instituted an impact fee that adds a cost to each well drilled. Additional regulatory burdens could be added. In Ohio they have old laws that are sure to be supplemented, much as they have been in the keystone state. The list goes on of what could be, and while none are specific to Rex, the potential is for a greater impact due to their small size.
On March 6, 2009, in the depths of the credit crisis, Rex’s stock price hit a dollar twelve a share. That’s after hitting a high of $28.78 on June 18 of the previous year. To say Rex’s stock is driving by the winds of the economy and the market is an understatement. Again going to the 10-Q, they list the usual suspects, such as “uncertainties regarding economic conditions” and “difficult conditions and uncertainties in the capital and credit markets.” From their history those risks are real, and another recession at the wrong time could really affect the stock price and the operations. The company is well funded for the next year or so, but a prolonged economic slowdown would hurt.
Chesapeake (NYSE: CHK) has likened the Utica to another hot energy play, the Eagle Ford Shale of Texas. Like the Eagle Ford, a company’s position in the play is key to its success. While Chesapeake is praising the play, Anadarko (NYSE: APC) isn’t seeing the same production from their wells farther south. Their Brookfield and Sharon wells are averaging about 600 Boe/d while their Spencer well is just at 239 Boe/d. They are currently evaluating the program and expect to make a decision to continue drilling in early 2013.
A lot is riding on the Utica, and Rex has received several analyst upgrades, in part due to the resource potential of this play. If the Utica fails to deliver on all the hype it could put a damper on Rex’s liquids growth plans. Not only that, but it could severely impact their ability to grow as the assets are written down and sunk costs are lost. It would be a severe blow to the company.
The good news is that the early indications are that the Utica Shale is for real. Rex should release additional production results in their third quarter report and we should soon know their 2013 capital plants for the play.
Investors still should take this threat seriously as exploration and production is fraught with risk. Companies drill dry holes and once promising plays turn out to be economically unviable. The rewards, however, are great if a company finds itself in a great position and we’ll know very soon if that’s Rex.
latimerburned owns shares of Linn Energy, LLC. The Motley Fool has the following options: long JAN 2013 $16.00 calls on Chesapeake Energy, short JAN 2014 $15.00 puts on Chesapeake Energy, long JAN 2014 $20.00 calls on Chesapeake Energy, and long JAN 2014 $30.00 calls on Chesapeake Energy. 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.If you have questions about this post or the Fool’s blog network, click here for information.