Become a Drillionaire
James is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The United States has recently grasped that it sits atop some of the largest natural gas deposits in the world. These largely untapped resources have the potential to alter the energy landscape domestically and abroad.
Demand for this commodity has increased substantially over the years.
Some major developments have recently been taking place in two very important end use points for natural gas. In 2007 the total consumed for transportation was 24,655 Million Cubic Feet (MCF). By 2012 that total had increased to 32,940 MCF. Electric power generation also increased substantially from 6,841,408 MCF in 2007 to 9,136,746 MCF in 2012.
Electric generation by natural gas is expected to soar to 82% of new capacity in 2013, up from 42% last year. The Wall Street Journal reported in 2012 that 258 natural gas plants were being built with expected completion by 2015. Couple that with the over 580 plants already online and demand looks solid.
This is just the beginning of a revolution that, according to billionaire energy expert T. Boone Pickens, is long overdue.
Here, companies poised to benefit will be highlighted.
The Darko Knight Rises:
Anadarko (NYSE: APC) is traditionally thought of as an oil play, but it is also the number three natural gas producer in the USA. As of year-end 2012, the company had approximately 2.56 billion barrels-equivalent of proved reserves, making it one of the world's largest independent exploration and production companies. Reserves were comprised of 46 percent liquids and 54 percent natural gas.
On March 19 Anadarko announced its Shenandoah-2 well, in the Gulf of Mexico, encountered more than 1,000 net feet of oil pay, making it one of the largest discoveries ever in this company's storied history. This follows two of the world's largest oil discoveries in 2012 offshore of Mozambique.
Large oil supplies have helped to insulate investors from past volatility in the natural gas market, making this a safe way to play the growing natural gas sector.
But that insulation may not be needed any longer. The fourth quarter of 2012 saw natural gas sales and volumes up approximately 8% vs one year ago. Revenue was up about 5% over that same time. The revenue failed to keep pace due to a 2011 average natural gas price of $3.43 vs. $3.28 for 2012. Expect natural gas revenue to increase substantially in 2013 due to the already much higher average price, currently at $3.95.
Finally, not only will Anadarko benefit from the higher natural gas prices, but with oil trading around the $100 range again, profitability should be substantially greater in 2013 for both areas of concentration.
Chesapeake Energy (NYSE: CHK) is an almost pure natural gas play. It sits at the number two spot just behind Exxon Mobil in terms of US natural gas production. With the departure of their troublesome CEO this company could be in the early stages of a recovery.
Over the last few years Chesapeake has found itself on the wrong side of the market. Using high amounts of debt to grow its natural gas empire just before the collapse in 2008/09 was the first stumble. Interestingly, the CEO also found himself over-extended at that same time with his personal margin account.
The next stumble came as they divested natural gas assets following the collapse to service that debt at exceptionally low prices. They used these proceeds to shore up the balance sheet and purchase oil properties that were designed to diversify the company and protect it against future market fluctuations. It seems to have worked, with Q4 2012 showing a 69% YoY increases in oil production.
So now that we know why Chesapeake is trading at one-third of its 2008 prices, let's take a quick look at why the future may hold some promise.
Chesapeake is the largest active driller of new wells in the USA.
Currently, 77% of proven reserves are in natural gas. In 2012, 59% of its realized revenues came from liquids, which accounted for only 21% of their production.
A price increase from $3 to $4 in natural gas could mean a 50% increase in net income. Prices of $5 would boost that to nearly 100% (given a constant of $95 oil).
Finally, completion of vital pipelines by third parties translates into sustainable demand by nearby cities and export terminals.
We're # 4!
The name of the US' number four natural gas producer may surprise you. Devon Energy (NYSE: DVN) has been been hit recently by negative earnings. But astute readers of their financial reports have not had their confidence shaken. They know that fourth quarter 2012 financial results were impacted by a non-cash asset impairment charge of $896 million. According to Devon, these impairment charges have no impact on cash flow or cash balances and are not reflective of the fair value of oil and gas assets. Excluding the charge, Devon earned $316 million, or $0.78 per diluted share, in the fourth quarter of 2012. This translates into a "buy on the dip" scenario.
Because of this dip some valuations are looking very attractive. A price/book of 1.09 vs. an industry average of 1.90 and a forward P/E of 11.16 are just two metrics worth noting. Additionally, a 0.40 long term debt to equity ratio is also attractive.
Devon has been growing its asset base at an impressive rate. The most significant growth in oil production came from the U.S., where fourth-quarter YoY oil production increased 30 percent.
“Devon’s capital program delivered excellent drill-bit results in 2012. Our oil-focused drilling program replaced nearly 260 percent of our oil produced during the year,” said Dave Hager, executive vice president, exploration and production.
Finally, in an effort to protect itself against volatility in the natural gas market, Devon has started to hedge. For the full-year 2013, Devon now has approximately 1.3 billion cubic feet per day protected at a weighted average floor price of $3.87. This position covers approximately 60 percent of the company’s expected natural gas production in 2013.
With the global recession natural gas has seen some heavy volatility. However, it appears that steady gains are now being projected for the coming years. A few companies are positioned very well. Slight increases in profitability in the natural gas market could translate into large gains due to their weighting. For safe natural gas plays try Anadarko and Devon. For those a bit more bold, Chesapeake might be the stock for your portfolio.
James Catlin has no position in any stocks mentioned. The Motley Fool owns shares of Devon Energy 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!