MARKET ACTIVITY/TRADING NOTES FOR DAY ENDING FRIDAY, JANUARY 23, 1998 (5)
Untitled Brokerage
TARRAGON OIL & GAS (TN/TSE)
Jan 14 Price $10.00
Recommendation: BUY
When commodity prices decline, everything unravels for the oil industry. Lower oil and gas prices adversely impact the economics of the industry's activities. In the normal course of events, these new economics will lead to a slowdown in the industry's capital spending as various projects are shelved. Reduced spending, in turn, lowers the industry's production levels. Lower production levels, in combination with lower commodity prices, dramatically alter and lower the industry's cash flow. This whole process then becomes a vicious circle, as the lower levels of cash flow reinforce the industry's need to cut spending, particularly for those companies that entered this commodity price cycle with an already high degree of financial leverage. The need to cut spending has become the most pressing problem that individual management teams within the oil industry are having to deal with currently.
Tarragon Oil and Gas is no exception. The Company's original plan was to spend $200 million on exploration and development in 1998. Given the lower commodity prices, this will no longer be the case. We expect Tarragon will keep capital spending in line with cash flow. Assuming WTI averages US$18.00/bbl and the Company's gas price $1.80/mcf, Tarragon's cash flow in 1998 is now forecast at $120.8 million. Accordingly, Tarragon's actual capital spending in 1998 is expected to be cut by $75-$80 million from originally planned levels. This reduction in spending is estimated to lower the Company's production levels by 3,000 boe/d from originally planned levels and this size of reduction has been built in to the cash flow estimate given above.
Most of the reduction in planned capital spending for Tarragon will in fact occur in the final three quarters of 1998. First quarter spending of $60-$70 has largely been committed to and it will be pursued despite the current low commodity prices. It largely involves spending on three different gas projects in northern Alberta that will add new production volumes this spring, and, in one case, in 1999. Tarragon would not want to cut spending on these projects in any case. The three gas projects being referred to are the development drilling planned at Jean Lake and Wappau Lake in northern Alberta, and the exploratory drilling at Bitscho Lake, also in northern Alberta, that hopefully will set up another phase of gas development in the first quarter of 1999.
One other project that Tarragon will pursue is the planned Phase 2 development of the Bolney heavy oil pool located in the Lloydminster area of western Saskatchewan. The $30 million cost of this program still appears well within Tarragon's financing capability despite lower estimated cash flow. This phase of development involves the drilling of another 13 horizontal producing wells, as well as 19 vertical steam injectors, into this heavy oil reservoir. This project also involves the installation of another steam plant and the expansion of the existing battery within the field so that it can handle more fluid. The drilling program at Bolney will begin in March and completed by the summer. Steaming within this new production module will begin in the summer and the incremental production from this new development will gradually build up to an estimated 10,000 b/d by year-end. At the end of 1998, Tarragon's total heavy oil production is estimated to reach the 17,000 b/d level.
While the spending for the ongoing development of the Bolney heavy oil field will be maintained in 1998, it is likely that the first phase of development for the Edam property in the same general area will be deferred because of cash flow constraints. Drilling on this property was not going to get underway until after the Bolney project was completed, so this deferral will not impact Tarragon's 1998 production levels significantly.
New estimates for Tarragon Oil and Gas @ techstocks.com
Tarragon's net debt is expected to be around $360 million at the end of 1997. That is equivalent to approximately 3.0 times our revised 1998 cash flow estimate. Tarragon plans further non-core asset sales in 1998 and these proceeds could be used to retire debt. Barring that, however, there will only be modest improvement in the Company's debt to forward year's cash flow ratio to 2.6 times at the end of 1998 based on our preliminary 1999 cash flow estimate of $138.9 million. That cash flow estimate is preliminary and it assumes no improvement in international oil prices.
Assuming Tarragon will trade at a 7.5 debt-adjusted cash flow multiple (which is below its historic average), we see a $13.10 per share price target for this stock based on our 1998 cash flow estimate and a $15.65 per share price target based on the preliminary 1999 price target. Assuming, therefore, that a US$18.00/bbl average is reasonable for WTI in 1998, this stock appears to have been oversold in the recent correction for the oil group.
Credit Suisse First Boston
said it initiated coverage of PETRO-CANADA with a buy rating. No further information was immediately available.
In the U.S.;
Lehman Brothers
said on Friday it started coverage on shares of SEAGULL ENERGY CORP. with an outperform rating and 12-month $23-$24 price target. Analyst Shawn Reynolds said in research note he forecasts earnings to fall 11 percent in 1998 to $0.56 per share from $0.63 per share in 1997. ''Production is expected to grow solidly over the next few years at 9.1 percent per year,'' Reynolds said. ''1997/1998 year-on-year growth will be relatively flat but new production in Egypt and the deep Wilcox trend in 1999 could result in a 19 percent jump.'' He expects the company's two new high-impact exploration plays -- the Deep Wilcox in Wharton County, Texas and the East Beni Suef Block in Egypt -- to be a source of additional exploration success in 1998 and beyond.
UK Oil Stocks Hit As Analysts Chop Estimates
Shares in British oil companies skidded lower on Friday as analysts reduced their forecasts for oil company earnings and for oil prices amid a continuing slump in world crude prices.
At the close, BP(UK & Ireland: BP.L) shares were down 33 pence or 4.24 percent at 746 on volume of 12 million.
Shares in Shell (UK & Ireland: SHEL.L; RD.AS) also fell, closing off 16p or 3.97 percent at 387-1/4 on volume of 86 million. Shell topped the most active stocks in the market, after a single trade of 45 million shares which was said by some dealers to have been conducted by U.S. brokers Merrill Lynch. A Shell spokeswoman later said Shell ''suspected'' that the deal involved a swap of derivative positions between two shareholders.
North Sea Brent crude prices came under pressure again on Friday from bulging U.S. crude supply and extra OPEC oil while mild winter weather weakened demand. The prospect that the United Nations will allow Iraq to export extra oil also weighed on sentiment.
In late afternoon trade, benchmark March Brent futures were off four cents at $14.96 a barrel, after recovering from fresh 45-month lows of $14.78 touched on Thursday.
Brokerage Deutsche Morgan Grenfell (DMG) in a research note downgraded its earnings forecasts for major European oil companies, reiterated its underweight stance on the sector and cut its oil price view.
''We continue to believe that refining margins in Europe will come under further pressure,'' DMG said.
DMG cut its Brent oil price estimates to $16.50 from its original estimate of $18.00 for 1998 and to $17.00 barrel from $18.00 for 1999.
The broker reduced Shell by 11.5 percent to 20.8p a share for 1998 and by 8.7 percent to 25p for 1999. BP was cut by 18.8 percent to 40.3p and by 11.2 percent to 49p.
CSFB analyst Catherine Arnfield lowered her 1998 forecast for Brent by $1.00 to $17.75.
Arnfield said she also cut her estimates for the UK oil sector, but noted current share price levels were close to average prices expected this year.
Her top stock picks in the UK oil sector remain BP, Enterprise(UK & Ireland: ETR.L) Oil, Lasmo (UK & Ireland: LSMR.L) and British Borneo(UK & Ireland: BBOR.L), all of which are rated ''buy.''
Overnight shares in U.S. oil majors were hit after U.S. drilling company Schlumberger (SLB) reported lower than expected quarterly earnings.
Schlumberger said that clients' plans to increase exploration and development spending may be modified when the impact of the Asian crisis on oil demand becomes clearer. Nervousness fed through to the UK sector.
But Daiwa Europe analyst David Stedman said BP shares looked cheap at current prices. He maintains his ''hold'' stance on the stock, with a preference for Shell.
''I would encourage people willing to take an aggressive view that there is value at these lower levels but with the caveat that there may be bumpy ride still in the immediate future,'' he said.
Stedman said his preference for Shell was based partly on defensiveness regarding the oil price, which he noted was likely to be lower in 1998 than in 1997.
He highlighted Shell's new profitability targets, its recent acquisitions and willingness to look actively at the possibility of a share buyback if Dutch authorities approved it.
''U.S. oil companies which reported earlier this week are all talking about a strong performance in refining, marketing and chemicals and that also tends to favour Shell over BP,'' he added.
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