Thursday, December 24, 2015

Analysis of Oasis Petroleum

We in the shit now, somebody gotta shovel it

Hercules Mulligan, I need no introduction

When you knock me down, I get the fuck back up again

–Taken from Hamilton the musical

Please read the disclaimer here: Enjoy the article, bitches!

Hey, how have you guys been holding up? So, I recently found songs from “Hamilton” the musical on YouTube, and I’ve been listening to them non-stop. I have great reverence for the revolution that created America, so naturally I would fall head over heels for a musical about a founding father. I highly recommend that you check out some of the songs from the musical as they really are mind blowingly awesome. I think I will reward myself by flying to America to see the play when I reach my next financial milestone (hopefully Hamilton is still running then). Anyway, let’s get down to business.

Update on the Greedy Dragon portfolio: I recently added to my position in Natural Resource Partners. Please do your own research before making any investment decisions. I will NOT be responsible for any of your losses.

Oasis Petroleum, which I own shares in, is a U.S. oil & gas company that operates in the Williston Basin. The low end of the company’s 2015 production guidance is for 49.7 thousand barrels of oil equivalent per day (MBOEPD). 88% of the company’s production consisted of oil in 3Q 2015. The company has 26,000 barrels of oil per day hedged at $54.85 and 21,000 barrels of oil per day hedged at $52.96 for the first half and second half of 2016 respectively. Just a few months ago, I wouldn’t have imagined myself being psyched over $50+ crude oil swaps. This just goes to show how screwed up things are right now. As at September 30, 2015, the company had 506 thousand net acres in the Williston Basin of which 86% was held by production. The company has 296 net operated proved undeveloped drilling locations with 122 net locations located in the core of the basin. The company has 1,772 net operated non-proven drilling locations with 345 net locations located in the core. Oasis expects that it will complete 66.8 net wells in 2015.


The following table illustrates the costs associated with producing a barrel of oil equivalent (BOE) for Oasis. The figures in the table are estimates, and may differ significantly from the company’s actual results. 

WTI Crude Oil
 $    34.50
 $      4.50
Realized oil price
 $    30.00
Realized natural gas price (converted to BOE)2
 $      7.80
Realized BOE price (excluding impact of derivatives)3
 $    27.34
Lease operating expenses4
 $      8.25
Production taxes5
 $      2.73
Gathering, transport & marketing6
 $      1.65
General and administrative7
 $      4.81
Operating profit per BOE
 $      9.89

1 The differential of $4.50 is the midpoint of the company’s 4Q 2015 differential guidance.
2 I calculated realized natural gas price by taking the $1.63 per mcf the company got for its natural gas in the quarter ended September 30, 2015 and cutting it down to $1.3 per mcf because natural gas has committed hara-kiri recently. I then multiply $1.3 by 6 to convert mcf to BOE. 
3 As 88% of the company’s production consisted of oil in 3Q 2015, realized BOE price was calculated as: ($30*0.88) + ($7.80*0.12).
4 Lease operating expenses of $8.25 is the midpoint of the company’s lease operating expenses guidance for 2015.
5Production taxes are calculated as 10% (the high end of the company’s 2015 guidance) of the realized BOE price.
6 Gathering, transport & marketing expenses of $1.65 is the midpoint of the company’s 2015 guidance.
7 I simply used the 3Q 2015 general and administrative expenses of $4.81.

Assuming that the price of WTI crude stays at these levels, I estimate that the company’s O&G division would generate $176.99 million in operating profit next year (excluding the impact of derivatives). For the purpose of this article, operating profit was calculated as operating profit per BOE × daily production × 360 or 9.89 × 49,700 × 360. No, I’m not touched. I know that there are more stuff involved when calculating operating profit. I’m just trying to get a rough picture here. If you annualize the company’s 3Q 2015 interest expense of $36.51 million, this would result in annual interest expense of $146.05 million. After deducting interest expense, the company would only have $30.89 million leftover for its capital expenditure program which really isn’t all that much considering the scale of Oasis’ operations. However, the company still has a significant portion of its production hedged which does help. With oil prices at current levels, the company’s hedges would give it an extra $165 million in cash flow. The company also has its well services and midstream businesses. Operating profit from those businesses for the 9 months ended September 30, 2015 was $25.05 million or $33.41 million annualized. So, Oasis’ total operating profit including the impact from derivatives would come up to a grand total of $229.3 million.

According to Oasis Petroleum’s 3Q earnings call transcript on Seeking Alpha, the company expects to spend $350 million on drilling & completion of wells in 2016 which it estimates will result in flat to a slight growth in production. While the company may not be able to completely fund its drilling & completion program with the cash generated from its operations with oil at $35, the shortfall isn’t huge. Although I’m not sure if it’s the best use of capital to bring all those wells online right now with oil prices being so depressed. By all means drill the damn wells since it’s cheap to rent rigs today, but you can wait to complete the well when the price of oil recovers. If buying back bonds offer a higher return than completing a well, then I hope management diverts some of the capex budget towards retiring the company’s bonds. The last time I checked, some of Oasis’ bonds were trading at 60+ cents on the dollar which sounds like a pretty orgasmic proposition to me. I would like to try my hand at investing in distressed bonds, but I don’t know how to actually buy a bond because I’m a moron. I also need to educate myself on how to analyze a bond, less my ventures in the bond market end up in my “Investment Screw Ups (as in my own screw ups)” series.

In this analysis, we’ll think of the $350 million as maintenance capex. Of course, the company also needs to spend on infrastructure which the $350 million doesn’t include. However, I don’t think that maintenance capex for the company’s infrastructure will be large enough to be a deal breaker. Oasis expects to incur capex of $150 million for its infrastructure program in 2016. However, based on the company’s 3Q earnings call transcript, its infrastructure program in 2016 is largely focused on bringing an asset online so I wouldn’t really consider it maintenance capex. The company also mentioned that it intends to bring in external capital to fund its 2016 infrastructure program.

Yes, it isn’t exactly good times holding on to a company that doesn’t have positive free cash flow. But Oasis’ operating cash flow should surge with any meaningful recovery in oil. Holding all other things constant, the company’s operating profit will rise by $14.17 million for every $1 increase in the price of WTI crude. The price of oil needs to go up to $55 for Oasis to generate enough operating profit from its O&G division to fully fund a drilling & completion program similar in size to the one estimated in 2016. Yeah, WTI crude oil at $55 kinda seems way up there from where we at right now, but stranger shit have happened. But even if WTI just goes up to $45, the company would only be short $140 million give or take from completely covering its maintenance capex with its operating profit. The company’s maintenance capex may even come down some as its production decline rate might further slow down due to its portfolio of producing wells becoming more mature. The cost of bringing a new well online may also decline, although I don’t think O&G companies will experience quite as much cost savings as they did this year. I sure wish that Moore’s law (I hope I got the right fucking law) applied to the shale producers as well.  

As at September 30, 2015, the company had liquidity of $1.35 billion ($1.339 billion available borrowing capacity under its senior secured revolving line of credit and $12.26 million in cash). The company had $2.380 billion in debt. Oasis’ debts start maturing from 2019 onwards, which gives it some breathing space.

The revolving line of credit does have a covenant that requires the company to maintain a ratio of consolidated EBITDAX to consolidated interest expense of no less than 2.5 to 1.0. To be real with you guys, this covenant has been a source of worry for me ever since oil plunged to the mid thirties. I don’t exactly know how Oasis calculates EBITDAX for the purpose of this covenant, but it seems that the company adds derivative settlements when calculating adjusted EBITDA in its quarterly report. According to my calculations, if WTI crude stays around $34.5 per barrel, Oasis would have a forward 12-month EBITDA/interest ratio of 2.59 after taking into account the impact of derivatives. Excluding the impact of derivatives, I estimate that oil needs to go up to around $45.5 for the company to maintain an EBITDA/interest ratio of 2.5.

I think that the EBITDA/interest ratio is calculated on something like a trailing twelve months basis. This could buy Oasis some time in the event things get worse as the quarters in 2015 will probably be more profitable than the quarters in 2016 if oil stays at $35. The company also adds back stock based compensation when calculating adjusted EBITDA, so I guess it will help if the company follows the same practice when calculating the ratio. However, things are still being cut a little too close for my liking. At least the company only has $185.2 million outstanding under its revolving line of credit as at September 30, 2015. Yes, I know that oil prices went up by a bit since I started the article when WTI crude was below $35. That just goes to show you what a lazy asshole I am that a mini rally occurred and I’m still dicking around with this article.

Well, 2015 has been…yeah… Maybe one day I get to look back at 2015 as the year I planted the seeds of wealth. But right now, I can’t wait to get the hell out of 2015 and start hustling in 2016. Thank you for reading. Have a merry Christmas and a happy New Year! Take care and stay rational.

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