KLR Downgrades 3 E&P Names On Valuation Concerns

The price of crude oil rose 7.5 percent in the first quarter, creating a setup for a better quarter at exploration and production companies. It's against this backdrop that KLR Group reviewed the sector's performance in a Wednesday note. 

The Analyst

Analyst John Gerdes downgraded Continental Resources, Inc. (NYSE:CLR), Pioneer Natural Resources (NYSE:PXD) and Sanchez Energy Corp (NYSE:SN) from Buy to Hold. 

KLR's price targets for the stocks are as follows: 

• Continental Resources: $67
• Pioneer Natural Resources: $212
• Sanchez Energy: $3

The Thesis

The E&P industry's cash capital intensity has "largely," stabilized, though it remains 45 percent below the 2014 cyclical peak, Gerdes said in a Wednesday note. The industry's overall unleveraged cost structure is expected to remain around the same levels as in 2017, the analyst said.

"Approximately three-quarters of the lower cost structure is related to capital intensity" in the form of service cost deflation and development rationalizatino and evoluton, Gerdes said. The analyst attributed one-quarter of the lower cost structure to unleveraged cash expenses.

KLR reduced its long-term Brent and NYMEX oil price forecasts by $2 and $1.50, respectively, to $65 and $61, implying a slightly narrower Brent/WTI spread and the integration of further modest improvement in global/U.S. capital intensity.

At the same time, KLR raised its 2018 Brent and NYMEX oil price forecasts by $1.32 and $2.24, respectively, to $66.32 and $62.24.

The firm's 2018 NYMEX gas price estimate was lowered by 10 cents to $2.90 and the midcycle outlook was dropped by 10 cents to 3.15, reflecting the improvement in gas industry cost intensity.

Continental Resources stock has appreciated about 30 percent since its late-February upgrade, Gerdes said. For the first quarter, the analyst expects the company to report earnings per share of 77 cents and cash flow per share of $2.18.

Pioneer Natural shares have added 15 percent since early April, the analyst said. The firm estimates EPS and CFPS of $1.69 and $4.54, respectively, in Q1.

KLR attributed its downgrade of Sanchez Energy to valuation. Sanchez is likely to report Q1 EPS and CFPS of 6 cents and 92 cents, respectively, Gerdes said. 

The Price Action

• Continental Resources is up 17.3 percent year-to-date and was up 2.9 percent Wednesday at the time of publication.
• Pioneer Natural is up 11.9 percent year-to-date and was up 1.24 percent Wednesday.
• Sanchez Energy is down 31 percent year-to-date and was up nearly 9 percent Wednesday.

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