More Pain To Come For Oil Stocks

This story features BEACH ENERGY LIMITED, and other companies. For more info SHARE ANALYSIS: BPT

-Funding pressures isolated
-Forward capex likely reduced 
-Focus on balance sheet strength
 

By Eva Brocklehurst

As the global oil price probes new lows, brokers are reassessing their Australian portfolios to evaluate those stocks best placed to weather the rout.

Canaccord Genuity observes the falls in the share prices of stocks under the broker's coverage has been greater than valuation revisions would suggest, reflecting uncertainty and negative sentiment. The broker highlights Drillsearch ((DLS)) as the most defensive under coverage and a key pick, as it is the only stock still able to generate free cash flow whilst maintaining its growth profile. Sundance Energy ((SEA)) offers the most upside potential as, even under revised forecasts, it still generates production growth in 2015 and 2016 with only an additional $25m in debt.

Beach Energy ((BPT)) is the least attractive to Canaccord Genuity among the Cooper Basin players. The company's gas sales should grow but this is expected to only offset declining oil production, which is higher margin, and comes with high capex.

Long-term Brent and West Texas Intermediate oil price forecasts are cut by 12% and 9% respectively, while the broker's near-term prices are cut more severely – Brent to US$86.40/bbl and WTI to US$80.50 in 2015 – to reflect the oversupply. Oil prices are yet to stabilise and may take some time to do so. The US$60-70/bbl range should provide support from a fundamental basis but financial markets may push prices lower for a short period, the broker contends.

Macquarie reassesses near-term funding positions and valuations across its mid-cap energy stocks. Given balance sheets are largely unleveraged and there is access to additional liquidity, the broker believes funding pressures remain isolated to a few. The most challenged are Horizon Oil ((HZN)) and Senex Energy ((SXY)). Energy companies' first reaction, in the event oil prices stay lower for longer, will be to reduce forward capital expenditure in order to preserve balance sheets.

Macquarie calculates around 50% of total sector capex relates to exploration in FY15 and only 34% of the respective budgets of Beach Energy, Drillsearch and Senex Energy were committed at the FY14 results. However, with 70% of the sector's 2P reserves being undeveloped, cutting capex too hard, too quickly would compromise medium term production targets. Macquarie considers Beach Energy, AWE ((AWE)) and Sino Gas & Energy ((SEH)) are the best defensive stocks to own. Senex Energy and Karoon Gas ((KAR)) are those preferred stocks in the higher risk category.

JP Morgan has deduced, after a briefing in New York, that Chvron will be moderating its exploration expenditure over the next year to manage development commitments. In the Australian context this means Gorgon and Wheatstone. The company's commitment to the Cooper Basin Nappamerri Trough unconventional joint venture with Beach Energy is considered minor for the big player and, as a decision point is looming at the end of the first quarter 2015, it seems a likely candidate for cuts, in the broker's view. Management signalled no major changes to existing projects and Gorgon and Wheatstone remain on track, but JP Morgan expects at least $2bn in capex cuts in 2015.

UBS has updated forecasts for oil prices, reducing Brent forecasts to US$69.75/bbl in 2015, US$80.00/bbl in 2016 and US$85.00/bbl in 2017. The broker's 2015 estimate is below the current forward curve and implies there is more pain to come for investors. UBS believes investors should focus on balance sheet strength, capacity to fund investment commitments and whether growth can still proceeding in a low oil price environment.

Woodside Petroleum ((WPL)) is considered in the best shape to manage the situation, although UBS suspects Browse FLNG cannot proceed in this environment. The broker believes the stock is a relatively safe choice but may underperform on any oil price rally. Oil Search ((OSH)) has high gearing but is over the main investment hurdle, and train 3 and possibly PRL15 LNG investment could proceed at current prices. Meanwhile, UBS considers Santos ((STO)) is the hardest hit of the three major Australian players, with high debt levels implying its credit rating will come under pressure. UBS considers most small caps have balance sheet flexibility, but Horizon Oil looks the most at risk.
 

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