Here we are after 2 quarters of terrible results from Gulfport Energy. I'll present you some information that will help you to better understand how this stock moves and what are the drivers of value.
What made this stock to plummet ?
1) Low Natural gas prices
2) Gulfport took big Asset impairment losses
and recently
3) Not well perceived latest earnings call conference (management didn't let Q&A and pointed out their ability to continue as a going concern)
Impairment losses
Big write-offs from the balance sheet caused huge losses to the equity holders in the previous 2 quarters. Though these were paper losses this brought book value from 20 dollars per share to 1.45 dollars per share. This came from a substantial depreciation of Gulfport Energy Assets.
Why this happened?
Natural gas prices were at all time lows and that putted pressure to all natural gas producers so did to Gulfport Energy. This caused Gulfport Energy to adjust and revalue the worth of it's Assets . These losses are not real losses in cash, but come from the impairment of Assets to be able to produce the required profits in the future ,that would make these assets worth their original acquired value. This goes back to what gives these assets value.
The value of Assets come from their ability to produce profit in the future. The impairment losses are the realization that the historic cost of these assets differ a lot from their current value. so a loss should be realized in the books. These losses are considered permanent but again this is just an estimation and in case the prices of natural gas and profitability recover there is space for reversal of this impairment at some level.
Revenue sources
Before valuing the business and the near term prospects we must know where the companies revenue come from. 90% comes from sales Natural gas , the rest 10% from natural gas liquids(NGL) and Oil. So the revenue depends on the quantity they produce and the price these commodities have.
The price of natural gas is counted in Million cubic feet (Mcf) or British thermal unit (Btu) which are approximately equal. The nat gas liquids and oil can then be converted to Mcf equivalents(Mcfe) for better comparison. So now we can project the revenues, we just want to know the price of Mcfe and the Mcfe they produce per day (Mcfepd).
For this year due to low energy prices, the management had decided to cut the production and projected an average production of 1000-1075 Million cubic feet per day(MMcfe) for 2020. The 2 first quarters fell into this range and the management is aiming for this goal in the next 2 quarters.
Revenue= Price per Mcfe * average production per day * number of days
Example: if the Price of natural gas and gas equivalents is 2$ per Mcfe and the average average daily gas productions is 1000 MMcfe then we can calculate the revenues.
1MMcfe= 1000 Mcfe , so 1000 MMcfe= 1 million Mcfe
if we have production of 1 million Mcfe per day and the Price is 2$ then we have revenues of 2 millions per day, if the price is 2.5$ then we have 2.5 million per day.
Costs
in the table below taken from their presentation there is a break down of the costs
The cost of producing is between 0.90- 1.03 cents per unit .
Add to that the capital expenditures that are estimated to be between 285 to 300 million and an interest expense of about 130 millions.
Cost= Cost per Mcfe * average production per day * number of days + Capital expenditures +Interest expense
Previous quarters results
Income
The first half of the year saw average realized price of nat gas 1.99 dollars per Mcf and after including oil and Ngls that was 2.37$ per Mcfe.
Total Revenues were 379,2 million dollars and
Total Profit (excluding Impairment of oil and natural gas properties): 7.6 million
including Impairment of oil and natural gas properties of about 1.086 billions they had 1.078 billions loss
Cash flow
Before moving on what to expect in the next quarter, it's necessary to look at the Cash flow statement because this will give us a better view of the cash circulation inside the business and help us see their ability to fund their operations.
here we see a summary of their cash flow statement
As we see their cash from operation in the 2 first quarter were 247.222 millions and their investing cash flow was - 230 millions, with capex of 275 million that gave them a negative free cash flow of 45 million.
Conclusion
They were on the edge of not being able to self finance their activities if it wasn't for the additional 45 million of property selling s.
In their presentations they understated their capital expenditure , they claimed capex of 285 to 300 millions for the entire year. But when you look more carefully that's the expenditures they list as Depreciation and Amortization and not their actual capital expenditures. So what they claimed as capex for the six month period as 189 million was 275 million . So i think it's better to adjust their capex for the year accordingly. I am not sure if this extra capital expenditures are not necessary for maintenance and should be counted off
What to expect ?
More costs
They have take or pay contracts. This means that they are obligated to deliver minimum quantities or pay fees for not delivering. They have take or pay contracts for the remainder of 2020 to deliver minimum daily volumes of 1,455,000 MMBtu per day. Since they already acknowledged they will average of about 1,000 MMcfe to 1,075 MMcfe per day that's is, if we do the conversion of about 400 MMcfe shortage per day.
Fee cost are significant and should not be ignored.
Higher energy prices
The second half of the year will see a recovery in the energy prices. That will help the revenues to rise up. Projections for 2021 show higher prices too. As for the compan has already at the price of 2.78 424 MMcf per day for natural gas and did hedges for NGLS and Oil. The hedges show that more than 40% of the coming revenues are hedged to price per Mcfe over 2.90.
How to play it?
this is a risky investment if they make it you make a lot of money if they arent able to self fund their operations,their operation is in the hands of creditors.
Trading opportunities
This is a very volatile stock and may be more rewarding trading than holding it. The stock did a huge move from 0.54 cents to 2.74 in March in one day. Although this was a special occasion there are many days that makes moves 15%-20%
Fundamentals short and longer-term
In this case you bet that the energy prices will be high enough to offset their costs from cashflow perspective. if they make it in the next 2 quarters you head for huge appreciation .Now you need to know the price that they will break even without needing to rely on credit facility .
This comes from the following equation.
Profit= Revenue - Cost => Profit= ( Price per Mcfe * average production per day * number of days )-
(Cost per Mcfe * average production per day * number of days + Capital expenditures + penalties for not delivering the minimum daily volumes +interest Expenses). =>
Profit= (Price-Cost) per Mcfe * average production per day * number of days - ( Capital expenditures + penalties for not delivering the minimum daily volumes + Interest Expense).
So to break even we need (Price-Cost) per Mcfe * average production per day * number of days -Interest expense = Capital expenditures + penalties for not delivering the minimum daily volumes.
How to solve this?
First you need to know how to convert the Oil and NGls price to Natural gas equivalent . this is not standard but approximately you can convert the price of oil to a nat gas equivalent by dividing it by 6 and NGLs to nat gas equivalent by multiplying it by 7. Then we need to see what percentage of the production comes from each commodity. We know that 91% is natural gas 3% oil and 6% NGLs.
1) Use the calculator below to convert the commodities prices to a Price of Mcfe
NG price ($/Mcf):
Oil price ($/Bbl):
NGLS price ($/Gal):
2) Use the guidance for average daily production volumes (1000 mcfe - 1075 Mcfe)
and the cost per Mcfe (0.93-1.03) $
3) Use the guidance for the Capex or estimate it
since you dont know the fees and the capex may differ, see how much space they have based on the price you set to break even.
Chances are that the fees will be quite substantial and they will need to use money from their credit facility. it's good to have a view of their current liquidity
They have have 256 million available to use. That's looks adequate for the next 2 quarters, but their performance will decide on what terms they will refinance their dept. This credit facility matures in December of 2021 and bad performance may prevent them from being able to borrow on favorable terms or be given any credit to refinance their dept and that may lead them to default.
In the calculator below you can plug different prices per Mcfe to see
how much money they can pay to Capex and fees without relying on new
credit. Max number of production for 2 quarters can be 182.
Price ($/Mcfe):
Average daily volume:
Number of days:
Valuation
Lets ignore their immediate risk and try to do a more holistic approach of a fair valuation. The safest way is to value their Proven reserves.
Proven Reserves: 4.5 Tcfe.
4.5 Tcfe = 4.5 Billion Mcfe .
then we all need to know the average price of Mcfe longer term and the yearly production to see how many years the reserves can last.
If they produce 450.000 MMcfe per year that equals to an average of about 1.300 MMcfe daily volume. This is an achievable production near to their usual operation, with that in mind their proven reserves can last about 10 years.
Calculate the Total profit for equity holders:
Total profit= (Price- cost per unit)* Production - Capital expenditures - Interest expense - Total Dept.
For cost per unit i will use higher than the current , which is closer to the older one when they had higher production
a 1.06 $/Mcfe looks appropriate. As for Capex i will put 600 million annually or 6 billion for 10 years that looks more than enough, and on the safe side based on their current capex, which is not aiming for growth but just maintenance. As for interest expense it looks more tricky, they are currently paying about 130 million per year. but the logical step is to pay the dept first, if we are assuming the termination of the business after the reserves deplete in ten years. Lets assume that this will save them 30 million annually in interest and that's about 100 millions annually or 1 billion in 10 years.
I will use as inputs for the prices some longer term projections.
lets say an Oil price of 60 $/bbl and natural gas of 3$/Mcf. I didnt find a price for NGLs but usually it falls between the middle. I convert bbl to Mcfe and then take the average to estimate Ngls price/Mcfe.
With this inputs i get a price of 3.42 $/Mcfe
So now i have what i need to calculate Total profit in 10 years time for equity holders.
Total Profit= (3.42-1.06)*4,5 billions - 6 billion- 1 billion- 1.91 billions= 1,71 billion dollars in ten years.
Now i need to adjust this for the risk.
Their corporate bonds are rated Caa1.This places them to speculative bonds . Non investment-grade bonds can have probability of default over 50% in a ten years time. So i need to adjust for this risk and bring this to 1.71*0.5 = 855 millions in ten years. Gulfport energy's corporate bonds give a yield to cost now of 12% so i use as a discount rate of 12% to find the present value of 855 millions.
Present Value of 855 millions in ten years with a discount rate of 12% equals
`PV= 855/(1.12^10)= 283 millions` . There are about 161 millions shares outstanding that's a price per share of 1.71$.
! It's Important to remember there is a short term risk of not being able to refinance their 700 million dept and that would make it a current liability for 2021 . Credit extension will be decided according to their performance this year.
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