The world of energy exploration and production (E&P) is a large one, with ample room for many different business models. Taking a page from Apache's (NYSE:APA) successful book, Denbury Resources (NYSE:DNR) focuses on acquiring oil fields that other operates consider played out and then actively works them to squeeze out even more oil. While this is a challenging approach, it can work well when properly executed, and investors may want to add this name to their list of energy companies to follow.
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To be clear, Denbury and Apache do not follow identical operating plans. Although Apache has and does take on mature fields, it is more broadly focused on efficient execution in environments that other operators find challenging and less economical.
Denbury, though, focuses extensively on tertiary operations.
While some investors may think that energy exploration means finding a reservoir, drilling a hole and just waiting for the oil and gas to come to the surface, only about 5 to 15% of most reservoirs are accessible this way. Typically, energy companies have to intervene to increase production - injecting fluids, gas or steam to force more petroleum to the surface.
In the case of Denbury, carbon dioxide injection is the name of the game; the company acquires older oil fields, injects carbon dioxide into the reservoir and reaps the resulting production. This can be an expensive process, but Denbury's operating costs are helped both by owning natural CO2 sources (including Jackson Dome) and having experience in these operations.
SEE: Oil And Gas Industry Primer
A Mix of Assets
Denbury's history is in tertiary recovery, but that's not necessarily where the present and future opportunities lie. When the company spent billions to acquire Encore, it also acquired unconventional assets in the Bakken and Rockies. In fact, Denbury has gone from having nearly two-thirds of its reserve base in tertiary recoveries to less than a third today.
What's more, the company has over 300,000 net acres of undeveloped acreage in the Rockies and Bakken regions that could add further reserves to its 462 million barrels of proven reserves (oil-equivalent). That's not a huge acreage compared to the holdings of other Bakken plays like Hess (NYSE:HES), Whiting (NYSE:WLL) or Continental (NYSE:CLR), but it's enough to matter for Denbury.
Will 2012 Show Better Results?
2011 was something of a challenging year for Denbury, as reported production declined 5% (due to asset sales) and organic production rose just 6% as the company saw delays and some disappointments in North Dakota. Despite that, management is still talking of several years of double-digit production growth - production that is very heavily weighted towards oil.
Not only does Denbury own a reasonably long-lived reserve base that is heavily oil-oriented, it also has attractive economics. Though I suspect Denbury's breakeven will change as more Bakken development occurs, it looks to me as though the company can break even below $50 a barrel for oil.
There's also a fighting chance that Denbury could see long-term benefits from ongoing clean(er) coal initiatives. Carbon capture has long been one of the legs of a cleaner coal policy, and if power plants would start to capture their carbon dioxide production in larger amounts, I would think that should reduce the costs of Denbury's tertiary recovery operations further.
SEE: Carbon Trading: Action Or Distraction?
The Bottom Line
E&P companies often carry forward EBITDA/EV multiples of four to eight times, depending upon their size and growth prospects. I'd argue that Denbury's growth prospects and oil-heavy production should put it further on the right side of that range, and I'd assign a multiple of seven and a half times to 2012 EBTIDA. At current estimates, that leads to a target price in the mid-$20s, which is a worthwhile prospect given today's sub-$20 stock price.
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At the time of writing, Stephen Simpson did not own shares in any of the companies mentioned in this article.
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