Noble Energy (IL/A): Confidence in onshore growth can narrow discount; IL/A Goldman Sachs May 04, 2005
We believe that Noble Energy (IL/A) continues to execute well in growing international production, maintaining production at core US onshore areas, pursuing new opportunities in the Rockies and working towards on-time startups of significant new projects in the Gulf of Mexico. Noble is not immune from heavily discounted valuations for conventional assets versus unconventional assets. We see room for shares of Noble and other companies that are perceived to be more conventional (Pioneer Natural Resources, Apache, and Talisman Energy) to appreciate if the Street recognizes the strong expected free cash flow and returns versus bidding up more visible production growth. Noble can become the leader of the pack if it boosts confidence in both achieving 10% per year growth from Patina assets and avoiding rapid declines following rapid growth from new Gulf of Mexico production.
BOOSTING CONFIDENCE IN PATINA COULD HAPPEN AT JUNE 2 MEETING
We believe that there remains controversy over what Noble will look like once the Patina acquisition is complete. The company continues to expect 10% production growth this year from non-Patina assets, and we are assuming about 9% (following 1Q 2005 production that was below expectations). In the least year, other E&Ps such as Pioneer Natural Resources and Kerr-McGee have disappointed the Street with production growth potential from pre-acquisition assets shortly after closing major deals, which we believe is a risk with Noble. However, in its 1Q results and on its conference call, management stood by its core growth expectations, and we believe that Noble management should command a good deal of respect from the Street. The company plans to provide more details of its post-Patina plans at its June 2 analyst meeting, and we believe that this could be a catalyst for the stock if the company can boost confidence in growth and returns. Due to a combination of hedging that accompanies the deal with flattish gas pricing environments from international areas such as Israel and Equatorial Guinea, Noble's mid-cycle returns appear to be better than other E&Ps.
OTHER COMPANY-SPECIFIC CATALYSTS
(1) Rockies drilling. Noble continues to actively drill the shallow Niobrara formation as well as deeper Rockies prospects. While we believe the company has reasonable drilling inventory in South Texas and the Mid-Continent, the ability to create more visible onshore production growth from legacy assets can lower risk, improve growth expectations and lead to a higher multiple. While Patina seemingly has low-risk drillable inventory that can lead to 10% annual growth, the company's assets are more mature and more conventional. Rockies success can augment Patina production and boost confidence in production sustainability.
(2) Timing of Gulf of Mexico startups and production stability. We expect significant new Gulf of Mexico projects to come online over the next 24 months and see Swordfish (expected to startup this summer), Lorien (mid-2006) and Ticonderoga (mid-2006) adding net production of 34,000 barrels of oil equivalent per day. This does create visible growth through 2006. As with most Gulf of Mexico production, we would expect steep declines to follow. The Street may both discount production growth from shorter-lived assets and later further penalize for declining production in a double jeopardy we see taking place at Pioneer Natural Resources. While we disagree with the double-discount, we believe it is incumbent on management to effectively guide for both the growth and the declines.
(3) International cash flows. Noble has benefited since 2003 from significant growth from international production in Israel, Equatorial Guinea and Ecuador. We see continued growth from Equatorial Guinea and Israel which can further boost international cash flows. The international production growth and cash flow has been a key stopgap while the company has improved its US portfolio through both exploration and acquisitions. With the US now expected to take the lead on growth, maintaining stable cash flows in these three higher-risk areas could lead to higher overall valuations.
VALUATION
Noble trades at 4.0x 2006 EV/debt-adjusted cash flow versus 4.5x for other E&Ps, and 5.1x 2007 (normalized) EV/DACF versus 6.3x for other peers. Noble shares are trading at what we believe to be a wider discount than is warranted, though this could be argued for other conventional producers as well. Notably, Noble stands out in terms of mid-cycle returns and free cash yield, based on expectations for Patina properties and longer-term hedging. Greater Street confidence in conventional production and/or Noble's ability to execute at Patina can cause that discount to narrow.
SOLID 1Q 2005 RESULTS ON HIGHER REALIZED PRICES AND LOWER COSTS
Noble Energy reported 1Q 2005 EPS of $1.83, higher than our estimate of $1.50 and consensus of $1.58. Lighter-than-expected production of 105.1 MBOE/d versus our 113.9 MBOE/d was offset by much higher realized prices. U.S. realized oil price came in at $37.82 versus our $35.90 and Equatorial Guinea oil price was $44.03 versus our $42.25. Realized gas price in the U.S. was $6.50 versus our $6.14. Additionally, all-in costs were lower than expected at $17.36/bbl versus our $19.36 mainly due to lower exploration expense. Higher-than-expected methanol sales volume and lower costs drove pre-tax profit to $43 million versus our $38 million. Overall EBITDA came in at $270 million versus our $263 million estimate, and operating cash flow at $228 million versus our $216 million estimate. Net debt/tangible capital is at 36%.
UPDATED ESTIMATES
We have updated our estimates to incorporate changes to expectations for the timing of the closing of the Patina transaction, production, price realizations and cost structure. We now see Q2, Q3, Q4, and full-year 2005E-2010N EPS of $1.45 ($1.49 previously), $1.88 ($1.94 previously), $2.11 ($2.20 previously), and $7.28 ($7.13 previously) respectively. We are our 2006E, 2007 (normalized), 2008N, 2009N, and 2010N EPS estimates to $9.12 ($9.36 previously), $3.89 ($4.03 previously), $4.06 ($4.22 previously), $3.84 ($4.02 previously), and $4.24 ($4.46 previously) respectively.
Each of the analysts named below hereby certifies that, with respect to each subject company and its securities for which the analyst is responsible in this report, (1) all of the views expressed in this report accurately reflect his or her personal views about the subject companies and securities, and (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this report: Brian Singer, Arjun Murti. |
