2023-06-27 12:09:09 ET
Summary
- Comstock Resources, Inc. has struggled over the past 8 months as gas prices have declined.
- We think that period is coming to an end and better gas prices will boost Comstock stock.
- Investors looking for growth and income may want to consider Comstock Resources stock.
Introduction
Gas prices have suffered this year, thanks in part to a huge inventory buildup that resulted from a warmer than normal winter here and in the EU. Gas drillers were slow to respond to this situation, but over the last six months have been dropping rigs to help alleviate low prices. Over the last month, gas prices have bottomed and rebounded about 40% to push through resistance in the $2.70 per MCF area. We think this is bullish for the gas drillers and will discuss why in this article.
CRK price chart (CRK)
During this time, the market has punished gas drillers in the Haynesville. Such is the case for Comstock Resources, Inc. ( CRK ), now bouncing around $10 per share after peaking in November of 2022 just above $21. That's the kind of delta we like around here, and makes it worth our while to take a closer look.
If you think higher gas prices are around the corner then CRK might be just the way to play them.
The Thesis For The Haynesville
The Haynesville shall rise again! As a southerner, I just wanted to say that. Actually, this basin could be on the decline thanks to a fall-off in drilling. Since Jan-23, the Haynesville has dropped 22 rigs. Simple math says if there were 72 rigs cranking out ~16 BCFD in Jan, if we lose 22 we are down ~1/4 of that, times the decline rate, times the time period, or about ~1.4 BCFD. Loose math, I could be a few hundred million BCF/D off either way, but a logically driven result none-the-less. All of that said, it could be a few months down the road before we see the full effects of the drilling drop-off.
None of this data is in any of the government reports- EIA-DPR , EIA-914 , that we usually research and cite. Those publications still have production going up, which, if borne out a couple of months from now, could be the result of DUC activity or wells coming on line at much higher rates - very likely - than reported by the EIA.
Thanks to new LNG capacity coming on line about 15BCF/D, new production will be need in the next 5 years, as noted by RBN in a December 21st, blog posting . Even more by 2032, as this RBN graphic shows.
RBN graph from linked blog (RBN)
If you include projects that are under open season commitment, but have not yet met FID, you have nearly 29 BCF/D needed by 2032. RBN notes further that there is a mismatch of about 1.5 BCF/D on the Texas side, but a gap on the Louisiana side of just over 2-BCF/D.
RBN graph from linked blog (RBN)
RBN sums the situation up pretty well in this quote below:
That mismatch of production vs. feedgas demand, in turn, will have a significant impact on how Gulf Coast LNG facilities source their gas, as well as on pipeline development, gas-flow patterns and pricing dynamics in the region, including premium pricing in Louisiana vs. Texas as LNG export growth keeps the gas market there tight for potentially the next decade.
Source .
Summer cooling needs
The inverse of winter is summer, and hot temperatures have arrived. In an article carried in OilPrice , SP Global notes that particularly in Texas, gas demand is at record levels.
Some 7 BCf per day of gas demand in the Lone Star State is now going towards power generation, 1 BCf/day above any historical yardstick, despite robust wind and solar utilization.
Premium pricing for LNG export, summer cooling needs that appear ready to take a bite out of record gas storage, and a gap between demand and supply makes the long term case for the Haynesville and CRK.
A few facts about CRK
As they note below, this footprint doesn't include the Western Haynesville acreage they proved up in the 2-Robertson County, Texas wells they brought in. I am sure "competitive reasons" means there is leasing underway and they are looking to protect their position. They do refer to it obliquely in the second bullet on the slide below.
The three key takeaways from this slide are-
- Low cost/high margins. Reading their color table to the right, it looks like rolled up costs per MCF are well below their nearest gas peer.
- A solid footprint in some of best of the core Haynesville/Bossier play-DeSoto and Caddo parishes.
- Nearly 1,600 PV-10 drilling locations.
It is also worth pointing out that Comstock's acreage is the blocky sort that enables the long horizontal legs that lower costs. Overall D&C costs are higher because the lateral length has increased 13% in 2022 alone. You'll remember the best way to get more production out of a well is to extend the lateral section.
A catalyst for Comstock
The Robertson country wells are coming in well above the typical 26 mm per day seen over in DeSoto and Caddo parishes. CEO Jay Allison commented on the results from the first several Western Haynesville wells in Robertson county, Texas (emphasis added):
We completed our second well in our Western Haynesville area. The KZ Black number 1H well was completed in the Bossier with a 7,912 foot long lateral, and it was turned to sales in November. The well was tested with an IP rate of 42 million a day. After we got the KZ well tested, our total field production exceeded the existing treating capacity in the field and the wells were curtailed to slightly below our treating capacity.
Prior to being curtailed, our first well completed in the field, our Circle M well was producing at a flat rate of 30 million a day since we turned it to sales back in April of last year with the exception of being shut in for the month of October, while the KZ Black well was being completed. The existing treater is currently being expanded. We expect to have additional treating capacity available basically by the beginning of the second quarter.
We also announced our third successful exploratory well and our Western Haynesville play, the Campbell well, which had an initial production rate at 36 million cubic feet per day, which is a rate that we expect to produce it at. We had an active quarter acquiring additional acreage in our Western Haynesville play.
Source .
In fact they came in so well the surface equipment wasn't able to handle it, as the commentary notes. Oftentimes, gas in this part of Texas is sour and they have to "treat out" the H2S before sending it down a sales line. Hydrogen sulphide is corrosive and dangerous-it will kill you quickly at concentrations of 700+ ppm. That's not very much.
Comstock is having success with long laterals., In 2022, 16 of their 66 total wells turned to sales were extra-long lateral wells greater than the 11,000 foot length. Included in these 16 extra-long lateral wells turned to sales were six wells that we completed with laterals longer than 15,000 feet. Notably their longest lateral well to-date with a completed lateral of 15,726 feet was drilled on their East Texas acreage.
The bottom line here is it appears that Comstock's western acreage is more productive per foot of interval (higher pressure, more permeability, perhaps lower stimulation costs), than the core Louisiana sector of the play. This should translate into more profits. Useful at a time when gas prices are struggling. Dan Harrison, COO commented on the potential impact of the Western Haynesville-
These wells are obviously capable of flowing at higher rates. They got great pressures. The drawdown looks superb, drawdowns much better than the drawdowns we see in our core, you know East Texas, North Louisiana area. So, we're managing the wells for longevity for maximum value. We'll drill 14 total Western Haynesville wells by year end and probably have eight or nine of those connected to shales.
A longer term catalyst for Comstock
RBN notes in their daily blog , a drop of ~3 BCF/D from U.S. imports from Canada due to the fires in western Canada, and scheduled maintenance on TC Energy’s Upstream of James River-USJR and Enbridge’s Westcoast Station 4B South pipelines.
Martin King, RBN analyst, writing in the daily blog entitled " Burning Down The House - Wildfires, Pipeline Maintenance Punish Western Canadian Gas Production ," notes:
From our early expectations for production growth of 1.2 to 1.4 Bcf/d this year, the impacts from wildfires and a healthy dose of pipeline maintenance has chopped our 2023 production growth outlook to just 0.4 Bcf/d.
In this report they note that curtailment of drilling in this area for the fires, will create a challenge for the 2.1 BCF/D of new demand arriving in late 2024 from LNG Canada.
This, to me, suggests a perfect opportunity for Haynesville drillers like CRK to step in and close any gaps in addition to meeting new demand from LNG projects coming on line in the Gulf Coast.
Balance Sheet
Comstock recently entered into a new 5-year credit facility with 17 banks, which lowered its interest costs and increased availability on their revolving facility. The leverage ratio was improved to 1.1x down from 2.4x in 2021. There are no significant maturities until 2027. Management also noted the conversion of Jerry Jones preferred equity to common stock as a sign of the company's strength.
And the $175 million in preferred stock that help fund the Covey Park acquisition was converted into common stock at the end of November. This is a key point. The conversion of the preferred by Jerry Jones is a statement demonstrating his confidence in the future of the company and his belief that ownership of Comstock Equity is the greatest potential for future appreciation.
Source .
Hedging
In the middle of last year, many operators went "bare" (unhedged) to capture market prices, at the time the highest seen in a decade. As we now know, those exorbitant prices didn't last long and sound hedging to insure cash flow is a prudent practice for a gas operator.
Comstock scored a win for the quarter by hedging the 82% of its Q-1, 2023 production to the NYMEX contract. During the fourth quarter, the quarterly NYMEX settlement price averaged $3.42 per Mcf and the spot price averaged $2.67. During the quarter, they nominated 82% of their gas to be sold at index prices tied to that contract settlement price, and then the remaining 18% of their gas was sold in the daily spot market.
Q1 2023 And Full Year 2023 Guidance
Comstock generated revenues of $390 million in Q1 2023, including $10 mm of hedging gain. Production in the first quarter increased 7% from last year to 1,445 MMcfe per day, and an 11% increase QoQ. Net OCF ran $254.9 mm for the quarter, including a $56 mm unrealized gain on hedging contracts.
Q1 2023 drilling program turned 18 new wells to sales, with an average IP30 of 23 mm SCF/D. Improved balance sheet with retirement of $506 million of debt and conversion of preferred stock.
Resumed quarterly dividend of $0.125 per share in December 2022, and maintained it for Q-1.
Guidance for Q2 2023
Second quarter production guidance is 1.375 to 1.435 Bcfe per day, and the full year guidance is 1.425 to 1.55 Bcfe per day. During the second quarter, they plan to turn to sales, 17 (12 net) wells. CapEx guidance, had been set it at $275 million to $325 million, with full year development CapEx guidance is $950 mm to $1.150 billion.
2023 wells will have an average lateral length being approximately 10% longer than 2022, which is helping to offset some of the cost inflation. In addition to the drilling program, they are targeting spending up to $25 million to $35 million on additional bolt-on acquisitions and new leasing.
This year, the DD&A rate is expected to remain in the $0.95 to $1.05 per Mcfe range.
Source .
Risks
Inflation is the big risk with Comstock. The Haynesville is deeper and hotter-and tighter than reservoirs. This brings advantages and disadvantages. The chief disadvantage is cost. Costs were substantially higher in 2022. The first quarter D&C cost averaged $1,579 a foot. This is a 15% increase compared to the fourth quarter, and might represent cause for alarm if drilling activity wasn't tapering off. The D&C cost for the full 2022 year averaged $1,329 a foot, and this represents a 28% year-to-year increase from 2021. The good news is costs appear to be flattening, and have the potential to flatten still further as activity levels decline.
On the completion side, their cost for the first quarter came in at $916 a foot, which represents a 4% increase compared to the fourth quarter. For the 2022 full year, completion costs came at $806 a foot.
It also be noted that the company is scaling back activity in legacy Haynesville with the release of two rigs, and may defer some completions. That could put production targets in jeopardy.
Their debt is also something to keep an eye upon, $2.2 bn over the long haul, but that concern is tempered by the $1.5 bn of liquidity on their undrawn revolver.
Your takeaway
I think Comstock is value priced at its current level down ~50% from November highs. The stock is trading at low multiple (EV/EBITDA-2X TTM). On production of 565 BCF during the course of the year they should at least generate EBITDA of ~$1.5 bn on a purposely bearish average sales price of 3.65 MCF. That will cover planned capex of ~$1 bn for the year, the full year dividend of ~$140 mm, and debt reduction which the company has prioritized, noting in the Q-4, 2022 call that another $100 mm in LT debt would be paid down in Q-1, 2023. Hedging costs for 2023 should be well below 2022 and covered with cash flow.
The company proved to be fairly nimble at marketing spot production to good effect on the cash flow in 2022, and I would expect no less for this year.
The company is also trading at a substantial discount to SEC proved reserves. In 2022 they grew 1P reserves 9% to 6.7 Tcfe and replaced 216% of their 2022 production. Management made a point of this in the Q-4 call.
Our 1P PV-10 value totaled $15.5 billion, highlighting our attractive cost structure we achieved an 83% EBITDAX margin, which is one of the highest in the industry. In addition, we achieved a 28% return on average capital employed and a 62% return on average equity. In 2022, we added 98,000 net acres that is prospective for the Haynesville and Bossier shales for $54.1 million or $550 per acre.
Source .
Bottom line, the company has a strong acreage position which enables a leading cost structure as compared with peers. The balance sheet is solid with no debt walls in the near term, and is able to fund obligations internally with a bearish gas price which they will likely exceed. The time to buy stuff is when there is blood in the streets, and I would say CRK at these levels meets that criteria. Gas prices are moving higher as well head into summer cooling season and if the end of June is a precursor, we are in for a hot summer.
Just over the horizon hangs the promise of export pricing when LNG capacity picks up in 2024-5. Investors buying Comstock Resources, Inc. stock at present prices have a substantial margin of security, and can expect to see growth and steady income over the course of the next couple of years.
For further details see:
Comstock Resources: A Number Of Catalysts Over The Next Year