CPE - Callon Petroleum: Strong Q3 Earnings In The Permian

2023-11-06 22:56:11 ET

Summary

• Callon Petroleum is an oil and gas exploration company with a market cap of $2.5 billion.
• The company's operations are located in the Permian Basin and mostly located in the Delaware Basin.
• Currently, CPE's production growth has stalled; however, in addition to capex, the company is deploying some capital toward purchasing shares and deleveraging.

Callon Petroleum ( CPE ) is an oil and gas exploration company with a market cap of $2.5 billion and trades between $35 and $36 per share. Callon Petroleum just reported its Q3 earnings and the earnings per share came in at $1.75. The company expects to see 2024 drilling and completion costs reduced by fifteen percent per well, which should increase return on investment significantly. The company's production profile is roughly 80 percent liquids which is important for investors, in my opinion.

In this article, I rate Callon Petroleum somewhere between a buy and a hold. I like the company for its current position in the Permian Basin, however, given the company's size, I would like to see it being more aggressive on the growth front. That said, Callon Petroleum will make an excellent takeover target for a larger company at some point in the future.

History and Overview

Callon Petroleum was founded in 1950 and remained a sleepy oil company until 2009.

In 2009, the company made its first acquisition in the Permian Basin with 8,800 acres. Since then, the company has continued to grow and today currently holds 145,000 net acres in the Permian Basin.

It recently held operations in the Eagle Ford Shale but it agreed to sell those assets in spring of 2023 so that it could focus primarily on its Permian Basin assets.

When considering Callon's Permian Basin acreage, it is worth noting that it appears that the company does not hold any acres in Lea and Eddy counties in New Mexico. Some industry experts consider this the sweet spot in the Delaware Basin.

Like any good company, the company is focused on cost reduction through gaining greater cost efficiencies. One of the ways it is doing this is by reducing the drilling time for each well while increasing the length that is drilled each day. Here you can see they have achieved impressive year-over-year results.

Balance Sheet

As of Q3 2022, the company has dramatically reduced its balance sheet from 2020. This is a good sign but has caused the company to behave somewhat conservatively on the growth front as we will see in the production numbers below.

Here are the company's long-term debt notes outstanding as of Q3 2023.

Shares Outstanding

Callon did a 1-for-10 reverse stock split in the middle of 2020 as its shares were trading at very low levels in light of the low/negative oil prices of 2020.

In 2019, the company did an all-share transaction to purchase Carrizo Oil and Gas, explaining the jump in shares outstanding in 2019.

In 2021, the company acquired Primexx , a private oil and gas company, explaining the increase in shares outstanding in 2021.

The company in 2023, recently made another acquisition in the Permian with $250 million in cash and 6 million shares in consideration.

Cash Flows

The company's cash flow from operations has remained strong in 2023 with lower hydrocarbon prices than 2022. However, the company's production has decreased slightly from 2022 as well (see below).

Here is the company's cash flow statement from its Q3 results to provide the fuller picture.

Here is Callon Petroleum's FCF allocation. In Q4 the company says that it expects to use 40 percent of FCF to continue repurchasing shares. The company does not currently pay a dividend.

Production Results and Trend

Here are the company's production trends over the past quarters and years.

QoQ

YoY

Here is the company's 2023-4Q production outlook. The company's 4Q expectations have decreased from the previous quarter. What does 56 MBbls/d equate to in total quarterly oil production? Let's break it down. This amount of oil production equates to (56,000 x 90) 5,040 Mbbls to (59,000 x 90) 5,310 Mbbls for the quarter. This is right in line with the previous quarters' production.

According to Callon Petroleum's Q3 results, they make the claim that their wells are outperforming the industry in Permian Basin by 5 percent. Their production is greater in the early months of production which is the most important when considering the time-value-of-money's effect on an investment.

The company shared some of its results from expanding the Bone Spring play in its Q2 results. This simple graphic below demonstrates why the Permian Basin is such a prolific play. There are multiple different zones that the companies can target which creates drilling inventory for multiple years.

Risks

As with any oil and gas company that uses leverage, the company's risk centers around commodity prices. If commodity prices were to decrease, it would place stress on oil and gas companies like Callon Petroleum.

I view a sustained and substantial decline in hydrocarbon prices as an unlikely scenario. I outline some of the reasons I'm bullish on oil in this article .

Currently, many believe oil could be threatened by renewable energy. I do not believe this will be the case any time soon. First, I don't believe renewable energy can scale to consistently meet demand and second, I don't believe the infrastructure required for electric vehicles can be installed quickly.

Here I highlight why I'm bullish on oil. Also, the IEA as well as OPEC are both forecasting strong oil demand throughout the next 5 to 6 years. The IEA is predicting peak oil demand near 2030 while OPEC forecasts strong oil demand well beyond 2030. Historically, these two entities have lined up with one another fairly closely, however, now their forecasts are diverging. I highlight that fact in this article .

Conclusion

In conclusion, I think Callon Petroleum is a fine company. However, based on their financials, it seems they are in more of a conservative growth mode at this moment. I like that their balance sheet leverage has come down but it seems their oil production growth has slowed down for the moment.

I do believe Callon will be an excellent takeover target for a larger company at some point in the future. Most small companies in the Permian will inevitably merge or get acquired by a larger company given enough time. But this is not reason enough for me to want to invest in the shares.

Due to Callon's position in the Permian Basin and their conservative operating performance, I am rating Callon between a hold and a buy. It is a conservative buy or an aggressive hold depending on how you want to look at it.

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