Ultra Petroleum (IL/A): Rig delays can impact even the best; exploratory results near at Pinedale and Pennsylvania - Goldman Sachs - May 07, 2006
We believe the Pinedale Anticline is the top unconventional gas field in North America from a growth, returns and free cash flow perspective. We believe Ultra Petroleum (IL/A) will continue to lead industry in growth and returns, and ultimately show acceptable free cash flow. Recently, rig delays have impacted negatively the pace of completing Pinedale wells vs. Ultra's initial expectations. We see this as a temporary hiccup, though if the leading unconventional gas field in the US is experiencing lower production due to rig constraints, we would continue to be surprised if consensus expectations for overall industry supply growth materialize. Increases to gas in place or recovery rates at Pinedale, with Deep Pinedale potential being the key near-term catalyst, could drive Ultra shares higher, although we continue to prefer other unconventional gas companies from a present value perspective.
KEY COMPANY-SPECIFIC CATALYST
(1) Deep Pinedale potential. We see about $12 per share of value for Ultra shares with success in developing deeper zones at Pinedale. Questar is reentering its deep exploration test, which had been delayed due to debris in the wellbore and winter drilling restrictions, and we expect results in the late summer period assuming no additional problems with the wellbore. Because of rig delays, results from Ultra's planned deep test may be delayed until 2007. While this is negative, we believe that both Ultra and Questar shares should move with the results from Questar's well. We continue to believe that there is more upside built into Ultra shares than to Questar's for deep Pinedale potential, but nevertheless see upside to both stocks if Questar's well is successful.
(2) Timing of Pinedale well completions. While most of the reason for the decrease in Ultra's production guidance for 2006 (to 93 Bcfe from 95 Bcfe) is due to rig delays, the company has also seen delays due to more rigorous testing of the environmental impact of year-round drilling and completions. Currently, Pinedale wells can only be completed between May and November, but that could change on a limited basis if the Bureau of Land Management approves a supplementary Environmental Impact Statement which could happen during 4Q 2006. This would flatten out Ultra's quarterly production profile and ultimately be positive from an efficiency perspective in our view.
(3) Rockies gas price differentials. With US natural gas inventories at record highs, there is a rising risk that Rockies differentials could widen over the summer or that Rockies production could be restrained temporarily to ease storage levels. We believe that production in the Pinedale Anticline is among the lowest marginal cost production in the US let alone the Rockies, and so we do not expect lower realizations to impact Ultra's production growth potential. However, Rockies companies generally could be susceptible to volatility this summer, even though we expect that Henry Hub prices will generally remain better than bearish Street expectations of $5-$6 per MMBtu. Ultra has hedged about 30% of its 3Q 2006 production, both to Henry Hub prices and to Rockies differentials.
(4) Pennsylvania exploration. Ultra plans to test its Appalachia deep test in Pennsylvania after extensive delays in the arrival of completion/pipeline equipment. First sales are expected at the end of May, and we expect Ultra to have greater details on its 2Q 2006 call in July/August. We do not believe that Ultra shares are factoring in much value for a meaningful play in Pennsylvania, which could lead to upside to the stock if this well is successful and the company accelerates exploratory drilling there.
ADJUSTED EPS HIGHER THAN OUR ESTIMATE ON OIL PRODUCTION, REALIZED PRICES
Ultra reported 1Q 2006 EPS of $0.41, higher than our estimate and First Call consensus estimate of $0.36. Lower than expected gas production of 184 MMcf/d versus our 194 MMcf/d was offset by higher than expected China production of 5.2 Mb/d versus our 4.2 Mb/d. Realized natural gas prices were $7.13 per Mcf, versus our estimate of $6.90 per Mcf. All-in costs were in-line though production costs of $0.45 per Mcfe were lower than our estimate of $0.59 per Mcfe, while the remainder of costs were slightly higher than expected. Operating cash flow was $116 million versus our estimate of $106 million.
UPDATED ESTIMATES
We are updating our 2Q, 3Q, 4Q and full-year 2006-2007 EPS estimates on lower gas production and costs, and higher oil production in China. Our new estimates are $0.31 ($0.30 previously), $0.45 ($0.43 previously), $0.60 ($0.56 previously), $1.77 ($1.66 previously) and $2.76 ($2.68 previously) respectively. We are also updating our 2008 (normalized) EPS estimate to $1.36 ($1.40 previously), $1.52 ($1.56 previously), and $1.69 ($1.72 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 |
