WTI - W&T Offshore: Charting A Course Through Oil's Choppy Seas

2024-01-04 19:40:27 ET

Summary

• W&T Offshore, an offshore oil and gas producer, has faced a challenging year with declining production and earnings.
• The company's production has remained erratic despite multiple acquisitions in the Gulf of Mexico.
• W&T Offshore's future earnings are dependent on fluctuating oil and gas prices, which are currently under pressure.

When we talk about the U.S. oil landscape, it's often the oil giants and shale producers that grab the headlines, with their extensive onshore exploits and massive operations. But venture a bit off the beaten path, and you'll find companies making waves in less trodden waters. In my previous article , I discussed Kosmos Energy ( KOS ), an offshore oil producer that looked poised to turn around. In this article, I’ll discuss another offshore oil and gas producer called W&T Offshore ( WTI ).

It's been nearly a decade since I last penned down thoughts on W&T Offshore. Back in those days, it was a different beast, juggling both onshore and offshore ventures. The oil market has shifted dramatically over the years, and so has W&T Offshore, now singularly focused on tapping into the potential of one offshore region.

However, unlike Kosmos Energy, the journey doesn’t look as smooth for W&T Offshore. This past year has been particularly rough, characterized by a slide in both production and earnings. And as we peek into the future, it seems the road might be just as bumpy. Let's dive into the details and chart the course W&T Offshore is navigating.

Price Pressure

2023 has proven to be a challenging year for oil and gas producers. With generally weaker prices for oil and gas than the previous year, the earnings of many energy companies came under pressure, but W&T Offshore’s declining production further impinged on earnings.

W&T Offshore has been extracting oil, gas, and NGLs from the Gulf of Mexico for over four decades from its extensive acreage in both the Gulf of Mexico Shelf and Deepwater regions. The company's output predominantly comes from deepwater operations, accounting for over 80% of its third-quarter production.

It also has a long history of acquiring offshore assets in the Gulf of Mexico to expand its operations. Since 2010, it has made 10 major acquisitions, the biggest of which was the purchase of Newfield Exploration’s deep-water assets for $206 million in 2014. Recently, in September, the company completed the purchase of eight shallow water oil and gas producing assets in the Gulf of Mexico for $32 million.

In spite of the acquisitions, W&T Offshore’s production has remained rather erratic, neither showing flat volumes nor consistent growth, as evident from the picture below. In the first nine months of 2023, its sales clocked in at around 35,000 boe per day, down from 40,500 boe per day in the same period of 2022. For the full year, W&T Offshore expects to produce around 35,000 boe per day, as per the mid-point of its guidance. At this rate, the company’s production will be slightly below what it was in 2018 (36.5Mboe/d).

With weak levels of production, W&T Offshore has relied heavily on commodity prices to fuel its earnings growth. In 2022 , when WTI oil prices averaged around $95 a barrel and the natural gas prices almost doubled, the company’s adjusted EBITDA surged by 156% to $564 million. The company swung from a GAAP loss of $0.29 per share in 2021 to a profit of $1.59 per share in 2022. The company’s adjusted net income, after excluding the effects of one-time items, also jumped by more than 10x to $1.99 per share.

However, 2023 has painted a starkly different picture. Due to the decline in both oil and gas prices as well as low levels of production, W&T Offshore’s earnings have fallen sharply.

Over the first nine months of the year, the company has reported a precipitous 72% decline in adjusted EBITDA to $138.3 million. GAAP profits plummeted by over 90% to $0.11 per share for the same period. Adjusted figures also reveal a downturn from a profit of $1.86 per share to a loss of $0.09 per share when compared year-over-year. The company has also burned a bit of cash flows this year, ending the first nine months with negative free cash flows of $0.01 per share, down from $1.71 per share in 9M-2022, data from Seeking Alpha shows.

Looking Ahead

W&T Offshore's future earnings and cash flow growth are intrinsically tied to the fluctuating oil and gas market, a sector that has seen its share of turbulence. In 2023, the WTI oil price experienced a near 7% decline, while the Henry Hub Natural Gas price saw a sharp 37% drop. Both commodities are currently trading below their previous year's levels, with natural gas exhibiting particularly pronounced weakness amid an environment of increasing supplies and tepid demand.

Looking forward, the oil and gas price outlook remains uncertain with supply levels rising and demand concerns escalating.

On the oil front, despite OPEC and its allies' attempts to stabilize the market through supply cuts, these efforts are being countered by increased production from non-OPEC+ countries, notably the United States. US weekly crude oil production surged to 13.3 million barrels per day (bpd) by year's end, up significantly from the beginning of the year, with projections from the EIA suggesting further increases in 2024. Similarly, output from other major non-OPEC producers like Brazil and Guyana should also rise. Concurrently, potential deceleration in global economic growth could dampen oil demand, thereby exerting additional pressure on prices.

The situation with natural gas is characterized by record-breaking supply levels. The US hit its highest-ever monthly natural gas production in November, reaching 105 billion cubic feet per day (bcfpd), and the prolific output from shale formations like Bakken and Marcellus might continue growing. Additionally, natural gas inventories are well-stocked, standing 7% above the five-year average as of November's end. However, demand may wane during the typically high-usage Winter season due to warmer temperatures, potentially leading to depressed prices. Reflecting these conditions, the US EIA has revised its natural gas price forecast downwards to an average of $2.80/MMBtu in Q1-2024 and expects an average of $2.79 for the full year 2024, which, while higher than the previous year's average, is substantially lower than past periods when prices were consistently above $4.

I think W&T Offshore's trajectory is looking challenging, given the recent downturn in commodity prices, a situation that has broadly impacted earnings across the oil and gas sector.

While many companies reported earnings dips in 2023 due to lower realized prices for oil and gas, a majority managed to maintain healthy profitability, thanks to WTI remaining above $70 a barrel. This dynamic allowed for increased production levels, with US oil output surging to record highs of over 13 million barrels per day [bpd] by the year's end.

From small-cap niche operators like Kosmos Energy, which specializes in producing oil from the Atlantic Margins, to larger independents such as ConocoPhillips ( COP ) with expansive domestic and international operations, a vast majority of companies have reported decent profits in 2023. Many of these companies like ConocoPhillips have also generated substantial free cash flows, leveraging the favourable conditions to reward shareholders through dividends and buybacks.

However, W&T Offshore's situation contrasts starkly with these examples. As previously discussed, the company's financial performance has not kept pace with its peers, particularly impacted by its significant exposure to natural gas — a commodity that has seen a more drastic price drop than oil. The company's historical performance indicates a dependency on higher oil and gas prices to yield robust returns. In the prevailing market conditions, with WTI oil prices oscillating between $70 to $75 a barrel and Henry Hub natural gas prices languishing below $2.80, W&T Offshore is likely to face continued earnings challenges. The upcoming fourth-quarter results, which I expect to be released around March, will likely provide further insight into these struggles.

It is worth noting that in the fourth quarter of 2023, WTI oil averaged $78.57 per barrel, which is below both the preceding quarter's average and the same quarter the previous year. Without any crude oil hedges to mitigate price volatility, W&T Offshore's oil production is fully exposed to market fluctuations. Consequently, it's reasonable to anticipate that the company realized even lower oil prices in the fourth quarter of 2023, adversely affecting its bottom-line both sequentially and on a year-over-year basis.

W&T Offshore has some protection against the volatile natural gas market, with over half of its fourth-quarter production hedged via swaps. However, the remainder of its natural gas production will inevitably feel the brunt of price weakness, which averaged around $2.75 in the fourth quarter of 2023. This represents a significant 50% decline year-over-year. Though there was a slight sequential increase in natural gas prices of about 6%, this marginal improvement is unlikely to significantly bolster earnings.

Reflecting back, W&T Offshore managed only a modest profit of $0.01 per share in the third quarter of 2023, even with relatively higher oil prices. As we move into the fourth quarter of 2023, without substantial support from commodity prices, it's likely that the company’s earnings will continue to be squeezed. This trend could establish a difficult outlook for 2024, particularly if commodity prices persist at depressed levels, keeping W&T Offshore's earnings under persistent pressure.

However, predicting commodity prices is notoriously difficult, and there are scenarios that could see oil prices rally. Such a rally might be triggered by a stronger-than-expected global economy leading to increased oil consumption or if OPEC+ decides to enact further production cuts. Should WTI climb back up to $80 per barrel or beyond, W&T Offshore, like its peers, would likely see an uplift in earnings. Nonetheless, it's important to note that many of its peers operate with lower cost structures and have demonstrated the ability to generate greater profits and free cash flows during 2023. Therefore, even in a more favorable pricing environment, W&T Offshore might still find itself lagging behind.

A potential silver lining for W&T Offshore is the possibility of industry consolidation, particularly in the Gulf of Mexico. If oil majors with significant regional operations — like Shell ( SHEL ), BP ( BP ), and Chevron ( CVX ) — decide to expand their footprint by acquiring smaller players, W&T Offshore could become an attractive acquisition target, especially if oil prices stabilize in the $70 to $80 per barrel range. Such a scenario could lead to a significant rally in W&T Offshore’s shares, providing a lucrative exit for investors in the event of an acquisition at attractive terms.

Takeaway

The recent trend of declining commodity prices has significantly impacted W&T Offshore's earnings throughout 2023, and it seems likely that this pressure may continue into 2024. As a higher-cost operator, W&T has faced challenges in sustaining robust profits and generating free cash flow in the prevailing oil price landscape. Without a considerable rise in oil prices to $80 or above, the company may persist in struggling to yield healthy returns. Furthermore, even if the oil market does see an uptick, W&T Offshore is potentially at risk of underperforming compared to its peers. From my perspective, W&T Offshore doesn't represent the best choice for investors looking for top-tier oil stocks. The company's prospects seem largely speculative, hinging on the potential for an acquisition at favorable terms in a consolidating Gulf of Mexico market.

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