Ultra Petroleum (IL/A): Pinedale Anticline continues to show strong results
Goldman Sachs July 27, 2005
Ultra Petroleum's strong 2Q 2005 results underscore strong fundamentals from the Pinedale Anticline, which we believe is the premier unconventional gas basin in North America. Production grew quarter on quarter, costs were in line, and cash flows from the company's Bohai Bay interest increased. Drilling in the Pinedale seems on track for the year, with an expectation for increased wells drilled in 2006. While Ultra shares are trading above our $32 estimated peak value (and we see great upside from Questar Corp., rated OP/A), Ultra is the pure play in a top growth basin, and there would be meaningful upside from any drilling acceleration, improvements in Pinedale well results or commercially produceable resource at depths below current levels. We rate Ultra In-Line relative to an Attractive coverage view.
TIMING OF 10-ACRE SPACING SOMEWHAT IRRELEVANT
We continue to expect that Ultra will eventually receive full 10-acre spacing from the Wyoming Oil and Gas Conservation Commission, but approval is not required for the company to continue to drill on the Pinedale for the next 8 years. Near-term approval does improve the efficiency of drilling, however. Ultra now has approval for 10-acre pilots, and we expect that larger approvals could come in 1H 2006.
KEY COMPANY-SPECIFIC CATALYSTS
(1) Pinedale well results and drilling productivity. Second quarter 2005 production increased 5% versus 1Q 2005 versus our expectation for a slight decline. Due to seasonal restrictions that impact the timing of completions, production has usually fallen in the second quarter. The increase may be due to a combination of better well results or the impact of an easing of winter restrictions in parts of the Anticline. Management indicated it is seeing signs of improving drilling and completion productivity, mainly through reducing the number of days to drill a Pinedale well. This could be an early sign of greater drilling acceleration ahead which would be a catalyst for the stock.
(2) Deeper Pinedale potential. Questar Corp. has reentered its deep Pinedale exploration well with results expected during 4Q 2005. Ultra has historically been less optimistic in deeper Pinedale potential, though more recently we sense management is more encouraged. Success could increase by 50% reserves per well (though it would also increase drilling and completion costs) from the entire Anticline. The well is high risk, but we do not believe that Ultra (or Questar) shares are considering any value for deep Pinedale potential.
(3) Consolidation. We believe Ultra has been active during the last year in pursuing opportunities towards consolidating its position in the Pinedale Anticline. In our view, the Street would respond favorably to this, though potentially less so if Ultra takes a major position in a less attractive unconventional gas basin. With increasing cash flow and some constraints from drilling additional Pinedale wells, Ultra could have an excess cash flow scenario over the next year. We believe management's priorities would be to attempt to accelerate drilling in the Pinedale first, consolidate assets in the Pinedale second and buyback stock third. With production in Bohai Bay, China expected to reach critical mass in mid-2006, we believe management could look to sell the business. This would increase the potential for Pinedale consolidation in our view.
2Q 2005 REPORTED EPS ABOVE CONSENSUS
Ultra Petroleum reported 2Q 2005 EPS of $0.30, higher than our estimate of $0.23 and First Call consensus estimate of $0.24. Realized U.S. and China oil prices of $53.99 per bbl and $42.92 per bbl were higher than our estimates of $50.50 per bbl and $35.00 per bbl, respectively. Realized U.S. gas price of $5.85 was also higher than our estimate of $5.45. This, coupled with higher-than-expected gas production of 154.1 MMcf/d versus our 141.5 MMcf/d, drove earnings past our and consensus numbers. Costs were in-line, especially positive considering rising costs for others that have reported 2Q 2005 results. Operating cash flow was $87 million versus our $70 million estimate.
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. |
