El Paso Corp. (EP): El Paso to Neutral as shares now reflect bullish nat gas price outlook - Goldman Sachs - May 21, 2008
What happened
We are removing El Paso from the Americas Buy List as relative valuation now appropriately factors in our bullish natural gas price forecast. Since our upgrade on March 7, EP has increased 31%, outperforming its peer group by 27% and the S&P 500 by 22%. In the last 12 months, EP has increased 28% versus a 1%/7% decrease for its peer group/S&P 500. Despite the downgrade, our favorable view of company fundamentals is unchanged as E&P-driven cash flows provide for numerous shareholder-friendly initiatives (such as its buyback program), supporting both a higher 6-month target price ($22, 7% total return) and 2009-10 EPS estimates.
Current view
El Paso’s Neutral rating better reflects our view that current valuation fairly accounts for natural gas prices that averaged $9.25+ per MMBtu thus far in 2008 (and our forecast of $11.25 in 2009 and $9.50 in 2010), well above the $7.50 per MMBtu price the company utilized for its 2008 guidance. We expect El Paso to utilize its improved cash flow stream to partially finance its internal growth portfolio and/or deliver shareholder-friendly initiatives (i.e., incremental share buybacks, debt retirements, or dividend enhancement). Overall, our favorable fundamental outlook for El Paso is unchanged as the E&P-driven incremental cash flow generated in the near term is replaced by the material long-term cash flow growth we expect capex projects at its Pipeline segment to generate. We are increasing our 2009-10 EPS estimates and 6-month target price to $22 (7% total return) following EP’s recently-announced $300 million share buyback program. Our target price is based on a 2008 EBITDA multiple of 7.0X, supported by a 9.5X EBITDA multiple for its Pipelines segment, 17.0X cash flow multiple for its GP interest in its MLP, and the discounted net asset value (NAV) for its E&P business, or $3.40 per Mcfe of proved reserves. Changing commodity prices or construction costs may slow project development or impact returns. |
