Newfield Exploration (OP/A): Woodford success highlights "forgotten" diversification - Goldman Sachs - March 22, 2006
We believe Newfield Exploration shares remain way oversold and do not reflect the diversification strategy successfully implemented over the past four years. The emerging resource in the Woodford Shale (Oklahoma), where the company announced positive drilling results on March 22, is one example. While low front-month natural gas prices and rising deepwater rig rates should impact shorter asset life companies that have a deepwater presence, Newfield shares trade at just 3.3x 2006 EV/debt-adjusted cash flow, overcompensating for this issue. We believe there is a far greater likelihood of 'normal range' natural gas storage for Winter 2006/07 than is being priced into Newfield and other gas-focused E&Ps. We rate Newfield Outperform relative to an Attractive coverage view.
WOODFORD SHALE RESULTS POSITIVE
Newfield announced that it had completed five recent Woodford Shale wells at rates we view as attractive -- about 2.4-4.8 MMcfe/d. The company believes that it is on track for future horizontal wells to deliver 2.5-3.0 Bcfe per gross well for $4 million in drilling and completion costs, leading to an estimated $1.50-$1.75 per Mcfe finding and development cost. We believe further drilling (the company plans a total of 45 horizontal wells this year) and the expected May field trip could be catalysts for Newfield shares. Ultimately we see 1-2 Tcfe of recoverable resource potential for Newfield. Because Newfield has been one of the only industry players speaking bullishly about the Oklahoma Woodford (Chesapeake Energy, for example, has been more muted), we believe this play is heavily discounted and represents an even greater opportunity for outperformance of Newfield shares if the company continues to be successful.
DIVERSIFICATION NOT BEING REFLECTED IN SHARES
The pullback in Newfield shares over the past six weeks has more than reversed any credit Newfield had received for its multi-year strategy of diversifying its reserve base beyond the Gulf of Mexico shelf. While Newfield's reserve life (8.5 years) remains below peers, it is being priced and considered as an unsuccessful Gulf of Mexico pure-play rather than a company with a longer-term history of offshore success and new opportunistic onshore assets. At yearend 2005, 20% of proved reserves were from the Gulf of Mexico. Deepwater Gulf of Mexico and North Sea drilling during late 2004/early 2005 was very successful, increasingly production growth visibility for 2006-07. Onshore, the company has generally met its goals for development oil drilling in the Rockies' Monument Butte field, and initial natural gas exploration results in the Rockies have been positive. The main negative for Newfield has been the pullback in near-term contracts for natural gas prices and the sharp rise in offshore rig rates.
WE REMAIN BULLISH ON MEDIUM-TERM NATURAL GAS PRICES
We believe that equity valuations are assuming low near-term natural gas price contracts continue into 2007, which is in contrast to the latter half of the 12-month strip and differs from our outlook. While the abnormally warm January and early February have caused an oversupply of natural gas in the short-term (we expect storage at the end of October of about 3.4 Tcfe, above the top end of the historical range), the excess inventory versus normal levels at present is much higher than we expect for the end of October. We believe greater industrial consumption, decreased LNG imports, slightly higher-than-normal summer electric power demand and flattish production capacity will all contribute to storage levels that while high move closer to a normal range. Assuming normal weather and no hurricane disruptions (a conservative assumption), we believe natural gas storage will get back to within the normal range next winter. Given our bullish views of crude prices and refining margins, we believe that barring mild summer weather it is just a matter of getting through the shoulder months before the focus begins to turn more to winter storage estimates rather than end of March 2006 or end of October 2006 levels. Because of this, we believe investors with a medium- or long-term time horizon should use this period of concern as a buying opportunity. Our OP/A-rated gas-focused E&Ps are XTO Energy, Newfield, Southwestern Energy, EnCana and Bill Barrett Corp.
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. |
