Friday, July 6th, was not a great day for energy companies. Crude was down $2.77 to $84.55 per barrel. The Henry Hub spot was up $0.03 to $2.94. European and Asian sanctions against Iranian oil are likely going to be new price drivers in the energy market. The sanctions went into effect on July 1st.
At the same time, the euro hit a two year low as a result of the eurozone's continued difficulty dealing with bailout provisions and restructuring of its economy. On top of that, grim U.S. job growth numbers created a new round of pessimism and concern about the pace of domestic recovery. While the job numbers were disappointing, they were not bad enough to have the Federal Reserve undertake another round of quantitative easing. An extended period of sluggish growth is expected, and energy prices are taking a hit for all the bad news. In the following article, I will examine the impact of these events on oil and gas stocks, with a primary focus on Cabot Oil & Gas (COG).
Several companies have decided to concentrate on natural gas plays, such as Marathon Oil (MRO), EOG Resources (EOG), Ultra Petroleum (UPL), Comstock Oil & Gas (CRK) and Exco Resources (XCO). Likewise, Cabot Oil & Gas has its operations activities concentrated in natural gas, onshore in the United States. Ultra Petroleum, Comstock and Exco Resources also restrict their geographic operations to the U.S. Cabot has 3.033 billion cubic feet of natural gas in proven reserves. It operates in Appalachia, east and south Texas and Oklahoma.
Cabot recently announced a 25% non-operated working deal to sell some of its interest in Texas for $250 million. Osaka Gas, one of Japan's leading energy companies, will pay $125 million in cash to Cabot, and $125 million in carried interest of 85% of Cabot's share of future drilling costs in the Pearsall Shale. The drilling carry will be fully utilized by the end of 2013. This deal with Osaka in the Pearsall Shale provides the capital to step up drilling of this formation and maintain a 100% interest in the Eagle Ford leasehold.
The Marcellus Shale region, covering New York and Pennsylvania is being viewed as a huge natural gas opportunity for Cabot, Range Resources (RRC) and Chesapeake Energy (CHK). Exxon Mobil (XOM) is also in the Marcellus Shale region. According the U.S. Geological Survey , the Marcellus shale contains approximately 84 trillion cubic feet of undiscovered natural gas and 3.4 billion barrels of recoverable natural gas liquids. Both of these estimates are qualified with the words "technically recoverable." These estimates are based on technology which is currently available to recover the resources. This region is the oldest producing petroleum province in the United States.
Range Resources was the first company into the region to perform pilot projects and found much more natural gas than was originally anticipated. Since the use of horizontal, hydraulic fracturing ("fracking") was used in the Barnett in North Dakota, it has become a cost effective and efficient ways to capture gas from shale formations. However, the topography of Marcellus is different than the Barnett which means there will be different environmental imperatives for the Marcellus region. State governments have home rule over permitting and drilling but the states do not have a consensus with respect to the future development of resources. Some states have different reporting and management guidelines for the impact of fracking which will slow the full scale development of resource properties. Development of natural gas properties is also price dependent. In this low price environment, there is little incentive for state bodies to cooperate and launch full scale development of the industry including transportation, refining and storage methods. Despite all of these things, Cabot anticipates production growth of 35% to 50% in 2012 and program costs of $750 to $790 million.
Energy demand is expected to increase over the next decade because of population growth and economic development of emerging markets. Despite high labour costs in the U.S., many companies are taking positions in U.S. natural gas plays at low commodity prices to be the main supply side when demand finally does kick in. When that will happen is anyone's guess. Economic numbers have ranged from underwhelming to very disappointing this year and there seems to be no immediate relief in sight. In any event, the movement toward natural gas is the best way to decrease domestic dependence on foreign energy sources and position the U.S., to be a net exporter of a plentiful source of energy to feed the coming demand. Medium term pain for long term gain is the strategy here.
Cabot's common shares trade around $39.50. The stock has a 52 week range of $27.77 and $45. The price earnings multiple is 64.77. The earnings per share are $0.61. The dividend yield is 0.20%. The company has total cash of $32.33 million and total debt of $1.01 billion. The company anticipates production growth of 35% to 50% in 2012 and program costs of $750 to $790 million. Its book value per share is $10.15. The current ratio is 1.01. A current ratio above one indicates the company can meet its short term debt obligations as they come due.
83.6% of Cabot's shares are held by institutions, and 11.57% are held by insiders. Only 4.9% of the shares are available to retail. As recently as June 15, 2012, over 5% of the float was sold short. There are other companies such as Marathon (98% of common shares available to retail) and Range Resources (94% of common shares available to retail) that are in the same geographic regions and have much better share liquidity. Institutions and insiders basically hold all of the power over the direction of the share price in Cabot.
Retail investors should avoid this stock, not because of its concentration in natural gas or any environmental issues in the U.S., but because of the stranglehold institutions have over the direction of the share price.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
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