2023-10-02 12:02:16 ET
Summary
- Ahead of another election cycle, Pampa Energia remains a safe and proven bet.
- Doubling down on unconventional plays via Vaca Muerta adds attractive long-term optionality to the portfolio.
- Investing in Argentina isn’t for the faint-hearted, but Pampa’s fundamental positives, along with the undemanding stock valuation, help the risk/reward.
Pampa Energia ( PAM ) is an Argentinean holding company with initial roots in utilities, most notably via acquired equity stakes in electricity transmission and generation assets, before expanding into upstream and midstream oil & gas. The most recent major addition was a ~$1.5bn takeover of scandal-hit Petrobras' ( PBR ) Argentinian assets in 2016 (merger approved in 2017), culminating in the current portfolio. Management deserves special mention for the company's success, not only navigating the notoriously volatile political and regulatory cycles in Argentina but also balancing its capex needs with the right mix of capital return (ADRs down 35% since 2017 due to buybacks) and opportunistic M&A. Investor interests remain well-aligned, given management's combined 26% ownership.
For investors, the stock has been a serial outperformer through the cycles, helped by its dollar exposure, and this year has been more of the same. But the August primaries indicate major change may be on the horizon, as anti-establishment candidate Javier Milei has emerged as the frontrunner (albeit by a slim margin), backed by a dollarization platform. A full dollarization seems unlikely, though, given the need for a coalition. And even if we see an election upset this month, the increasingly crucial role that Argentina's oil & gas sector will play in balancing the national accounts (a view shared by all sides of the political aisle) means Pampa is well-positioned to ride the winds of change. While the valuation has re-rated this year, the low-single-digit EBITDA multiple remains undemanding relative to a sustained underlying high-teens ROE profile and the long-term shale optionality on offer.
Changes Afoot as Elections Loom Large
To an extent, Pampa's operations and financing have been hindered by capital controls in Argentina, a state effort to delay devaluation pressures on the local currency. The result is corporates like Pampa accessing dollars via a 'blue chip' FX rate consistently higher than the official rate. Hence, election frontrunner Milei's dollarization platform, which would improve access to the dollar, bodes well for the company if implemented. The flip side is that a fully dollar-denominated cost base (versus the current cost base largely denominated in local Pesos) would also eat away at the ever-widening USD/ARS spread inherent to the business, given management has prudently kept its revenue streams and assets mostly dollarized.
That said, Milei is working with slim margins, and his party, La Libertad Avanza, will likely have to make big policy compromises in a coalition with the more centrist Juntos por el Cambio. Beyond the more radical dollarization proposal, a market-friendly agenda, including the privatization of state/state-backed energy companies like YPF Sociedad Anónima (YPF), will be on the cards in a center-right government; a leveled playing field should benefit Pampa. On the regulated business, a shift to the right should also allow Pampa to offset dollar inflation pressures better (note the last hike was ~155% at the start of the year), covering capital expenditure needs for the grid.
Doubling Down on Vaca Muerta
What all political sides seem to agree on is the key role of oil and gas in driving the economy long-term, particularly with the Vaca Muerta formation offering the second-largest shale gas reserves in the world. At a macro level, the prospect of transitioning from a net importer to a net exporter is a game-changer for the country's trade balance and, perhaps more importantly, will help alleviate the currency pressures that have plagued the economy.
This plays right into Pampa's hands, given its renewed commitment to the sector via a $107m asset swap for the prolific Rincon de Aranda block from TotalEnergies ( TTE ) earlier this year (previously 55%/45% jointly owned by Pampa and TotalEnergies). Per management, plans are currently to drill four wells each in 2024 and 2025 before a production plateau of 15-20kboepd by 2027/2028.
Industry-Leading Capital Allocation
Within the country's equity universe, Pampa has one of the best capital allocation track records, combining a steady pace of capital deployment (mainly capex and buybacks) with a robust balance sheet. While the company maintains a USD/USD-linked net debt position, its overall leverage is well-managed at 1.1x net debt/EBITDA (post-asset swap); thus, I don't see any funding issues through 2027 when the next big maturity comes due. Barring any unforeseen outlays, the company should quite easily stay free cash flow positive in the near term, which should also free up capital for more accretive M&A (this year's acquisition of the Rincon de Aranda block from TotalEnergies being a case in point).
Another key differentiating factor here is Pampa's stellar management team, which has its interests firmly aligned with investors (combined ownership expanded to ~26%). Any excess capital has also generally been returned to investors via buybacks, and as a result, the company's outstanding ADRs have been reduced significantly to 55m (down 35% since 2017). For now, though, the company's renewed upstream push, in combination with projects elsewhere in the portfolio, could entail slower share and bond buybacks in the near future. And while upcoming debt renegotiations could free up more capital, most of it will likely be funneled into growth investments. Still, the attractive economics underlying these investments should pay off long-term. Ahead of a new election cycle as well, I can't think of a better steward of investor capital, given its proven track record of navigating similarly volatile shifts.
Ride This Stock into the Argentinean Elections
Pampa Energia shareholders will be pleased with the equity performance this year, as its combination of dollarized income streams and peso-denominated costs continue to boost reported profitability. This month's elections add an element of uncertainty, though, given the primaries point to Javier Milei's dollarization platform potentially winning out. But the chances of full dollarization seem unlikely, given Milei's slim majority will likely result in a coalition and, thus, policy compromises; still, any alleviation to the perennial USD shortage problem would be a net positive for Pampa's operations. A move toward market-friendly deregulation and the increasingly consensus view that O&G exports are needed to balance the books also bodes well for growth ahead of a scheduled production ramp-up in the coming years.
In the meantime, investors aren't paying too high a price at the current low-single-digit EV/EBITDA valuation relative to the company's high-teens ROE and underlying cash generation potential. Adding to the appeal is Pampa's proven management team with plenty of skin in the game (~26% stake in the company) and an outstanding capital allocation track record. Net, I would use the pre-election pullback as an opportunity to accumulate.
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Pampa Energia: Ride This Stock Into The Argentinean Elections