Domestic Energy for the 21st Century

James is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Throughout the course of my lifetime, starting in the 1970's, the U.S.A. has been plagued by several major oil crises.  We all know the drill.  Prices skyrocket and we the people cry for alternatives.  Then just as quickly those same prices collapse and gasoline costs retreat along with the outrage.  With the public appeased ideas for the future get put on the shelf to gather dust for the next 6-10 years.

What is different this time?

The abundance of natural gas in the USA introduces new options that have previously not been part of the energy equation.  In the past our solutions put us at the mercy of a technology curve (solar, wind, geothermal, deep-water drilling etc.).  However, with the discovery of copious amounts of natural gas we now have the potential for inexpensive domestically supplied fuel that can support millions of jobs.

Legendary energy players like T. Boone Pickens have been touting the future of natural gas in recent years.  So is now a perfect time for the long term investor to begin looking at this domestic source?

Here we will examine two potential long term holds in the natural gas sector.  The natural gas sector is filled with promise.  The recent price drop in natural gas has left the sector beaten down.  However, it just so happens that there are companies that are well diversified, profitable, and poised to pop once the natural gas revolution truly begins to take shape.  Not only do they present a great growth play in the sector but their prices are very attractive from a value perspective.

Apache (NYSE: APA) is a solid pick for the conservative investor who wants to play the natural gas sector.  They are diversified with both oil and gas operations which provides an element of safety.  Looking at the most recent earnings release there was something that caught my attention right away.  In 2011 the amount spent on development was approximately $4.6 billion.  However, in 2012 that number was up to $6.4 billion.  The majority of those increases taking place in the United States going from $2 billion to $3.6 billion.  The future of domestic energy is the clear reason for this investment.

On top of positioning itself to be a leader in the domestic energy revolution Apache currently presents a solid current investment.  Looking at key valuations (Figure 1) we can see that Apache not only outperforms the industry in several key areas but is also currently trading at a discount.

Figure 1:

<table> <tbody> <tr> <td>Valuation</td> <td>Apache</td> <td>Industry</td> </tr> <tr> <td>P/E</td> <td>13.30</td> <td>14.30</td> </tr> <tr> <td>Long Term Debt/Equity</td> <td>0.36</td> <td>0.45</td> </tr> <tr> <td>Sales-5 Year Growth Rate</td> <td>11.50%</td> <td>10.57%</td> </tr> <tr> <td>Capital Spending 5 Year Growth Rate</td> <td>12.11%</td> <td>-1.81%</td> </tr> <tr> <td>5 Year Net Profit Margin</td> <td>18.10%</td> <td>9.30%</td> </tr> </tbody> </table>

Currently trading at $80.40 Apache is down almost 18 % from its 52 week high of $112.09.  With a Forward P/E of 8.30 this oversold condition won't last long.  In fact this short term pullback could be the perfect buying opportunity for the long term investor.  Conclusion: Strong Buy and Long Term Hold.

Hess (NYSE: HES) is an oil and gas exploration and development company that is managed by legendary CEO Mr. John B. Hess.  His 34 years of energy experience also include Director of Dow Chemical Company and General Partner of KKR & Co. LLP.

Currently Hess is trading at $55.50 (Figure 2) which is well below its 52 week high of $67.86.  With a current P/E of 12.30 and a Forward P/E of 8.83 Hess is trading at a discount to the industry.

Figure 2:

<img src="/media/images/user_14634/hess-chart_large.png" />


Once again the increases in capital spending for exploration and development in the United States are what caught my eye on their earnings reports.  With a capital spending 5 year growth rate of 11.68% vs. the negative industry average it's very obvious that Hess, like Apache, is preparing for the coming domestic energy revolution.

Again, like Apache, Hess isn't overly dependent on the natural gas market for profitability.  Though they have engaged in major domestic expansion they also are still pursuing a strong international growth strategy that includes oil.  The recent deep water discovery off the coast of Ghana illustrates that very fact.  Conclusion: Strong Buy and Long Term Hold.

Bonus Discussion:

At this point some of you might be wondering about the most well know natural gas producer and what I think of Chesapeake Energy (NYSE: CHK).  Looking over the books I do see signs of recovery and a growing maturity from their CEO Aubrey McClendon.  With a book value approximately that of the current stock price it could be very tempting to jump in but I wouldn't be so quick to pull the trigger.  The high debt, negative earnings, and continuing dividend payments will all continue to chip away at book value.  The recovery is far from complete and the asset shuffling in recent quarters has distorted the books in my opinion.  I can't be sure of exactly what I would be purchasing for my $17.60.  Conclusion: Avoid.

Linn Energy (NASDAQ: LINE) is another oil and natural gas producer that is often uttered in the same speculative circles as Chesapeake Energy.  While they appear to be in the financial doldrums like CHK I did notice a couple things about Linn that caught my attention.  They have a solid plan for development, investment, and profitability.  The commitment to natural gas infrastructure is what I found most impressive.  Also, being that they are a relatively new company they have been focusing on asset acquisition.  Recently the monetization of those assets has accelerated and will continue to increase.  With a Forward P/E of 20.60 this might be a company to add to your watch list as the domestic energy revolution materializes.  Conclusion: Place on Watch List. 

Lulupoopsalot has no position in any stocks mentioned. The Motley Fool owns shares of Apache and has the following options: Long Jan 2014 $20 Calls on Chesapeake Energy, Long Jan 2014 $30 Calls on Chesapeake Energy, and Short Jan 2014 $15 Puts 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus