PEY 2Q13 Review: Ops Remain Top Notch, but Commodity Prices Weigh

Summary Bullets:

  • Long Peyto Exploration & Development Corp. (PEY.TO) remains a Hedgeye Best Idea.
  • PEY raises YE13 exit rate production to ~70,000 boe/d, up from prior 62,000 – 67,000 boe/d, impressive in light of poor weather conditions in 2Q;
  • First look at new Deep Basin area, Brazeau, is positive, and can potentially be a new leg to the stool with already ~200 identified locations;
  • AECO natural gas, propane, and butane prices are weak and have weighed on the stock recently – but as the low cost producer, Peyto is in the best position to weather the weakness, and take advantage of low services, land, and materials costs.
  • Looking to 2014, we expect another year of record activity, capital spending, and production.  Equity deal in 4Q13 or 1Q14 to finance the growth?

 

Production guidance……Peyto raised the YE13 exit rate for production to ~70,000 boe/d, up from the prior guidance of 62,000 – 67,000 boe/d.  The back half of 2013 will be the busiest in the Company’s history, running 10 rigs and completing three infrastructure projects in October.    

 

First look at Brazeau looks good……Peyto has built up a 55,000 net acre position at Brazeau, which is in the Deep Basin about 100 miles south of its core Sundance area.  The area is prospective for the sweet gas Wilrich, Falher, and Notikewin zones.  Peyto quietly, methodically put this contiguous block of acreage together over the last three years for under $300/acre.  So far, it has drilled 3 Wilrich wells, and the results compare favorably to the higher-pressured Wilrich areas in Sundance.  Peyto will continue to delineate Brazeau in 2H13 and 2014, and is building a 20 MMcf/d facility there to bring the newest wells on stream.  Peyto currently has 2,500 boe/d behind pipe.  The Company believes that there could be an additional 200 locations at Brazeau, and we are still early days.

 

Commodity prices weigh……The recent weakness in NYMEX gas, the blow out in the AECO basis differential, and continued pressure on the lighter ends of the NGL barrel (propane and butane) have weighed on Canadian gas stocks of late (PEY, TOU, POU, TET, etc.).  Peyto noted that many of its small working interest partners have lately gone penalty on Deep Basin wells owing to the weak gas price (Peyto is more than happy to pick up their interests).  We tend to view commodity price weakness, especially when it seems transitory like the blow out in the AECO basis differential, as an opportunity to add to core positions in high quality, low-cost producers like Peyto.

 

An early look at 2014……We believe that 2014 will again be an aggressive activity/capex/growth year for Peyto, as the low natural gas price environment has slowed down its peers, leading to cheaper services and equipment, and ultimately, low F&D costs (all-in PDP F&D ~$2.00/Mcfe).  With its counter-cyclical investment approach, this is when Peyto wants to push the pace.  We assume that Peyto runs 10 rigs in 2014 (flat from the 2H13 run rate), spending ~$650MM, producing (on average) 76,000 boe/d for 26% Y/Y growth, and generating CFPS of $3.60 (23% Y/Y growth).  With dividends and capital spending exceeding cash flow by ~$250MM in 2014, we believe that Peyto may raise $100 – 150MM of equity in 4Q13  or 1Q14.  At the current share price ($29.00), such a raise would be 2 – 3% dilutive to the share count.  With its aim of being the low cost producer, low leverage is important to the Company; in each of the last three years, Peyto raised ~$115 -125MM of equity in the fourth quarter; we think that it’s reasonable to expect a similar raise again this year.  We model that total debt/cash flow at YE14 will be at 1.7x, flat from today.

 

Kevin Kaiser

Senior Analyst


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