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Permian Economics: Cimarex On The Edge Of Being Part Of Shale Elites


Within the context of a wider shift of shale activity away from fields like Bakken, Eagle Ford and into the Permian, Cimarex is also shifting its drilling activity into Permian acreage.

In 2016, half of Cimarex wells were completed in the Permian, this year it will be two thirds.

Assuming average 2017 oil spot price of $60/barrel and $3.50 natural gas, Cimarex will achieve cash break-even from operations for this year.

In the aftermath of the oil price crash of 2014, we had a rather rude awakening to the fact that shale oil & gas producers may not be as profitable as claimed. The cover afforded to them by the claim that they were not breaking even because of ramp-up costs was dismantled once shale production started declining in 2015. At that point, it became as clear as day that these companies were nowhere near being profitable at prices in the range where they previously claimed that they are profitable. We have had plenty of quarters where oil prices averaged in the $40-50/barrel range, which is where we were told that breakeven costs should be for many shale plays, yet the losses kept coming. Cimarex Energy (NYSE: XEC) however did post a small quarterly net profit of $38.2 million in the last quarter of 2016. It is a rare example which many would attribute to the fact that it is partly based in the Permian which is now thought of as being far superior in terms of profitability compared with most of the non-core areas of Bakken and Eagle Ford.

Cimarex is by no means a pure Permian play, therefore its financial results cannot be seen as being a reflection of Permian profitability.

Source: Cimarex.

As we can see, half of its net wells were drilled in the Permian, while the other half were drilled in the Mid-continent in Oklahoma. While Cimarex may not be a pure Permian play, like Diamondback (NASDAQ: FANG), which I covered recently as a way of not only highlighting Diamondback’s profile but also as a way to point out the difference it makes to be invested in relatively superior acreage, but Cimarex is the more typical story. More and more shale producers are trying to divest from some of the less economic acreages in other shale fields like the Bakken, Eagle Ford, or Woodford in Oklahoma, where aside from some core areas, drilling has proven to be largely unprofitable, especially since the oil price collapse of 2014. In the place of that acreage, they are trying to either drill more extensively in existing Permian acreage, or they are looking to invest in new Permian acreage. We have seen a similar shift with other companies like Anadarko (NYSE: APC), or SM (NYSE: SM), both of which I covered recently. Both of them have been rushing to become more prominent Permian players while cutting their exposure to some of the non-core Eagle Ford assets they were basing their hopes on in the past.

Cimarex did report a fourth-quarter profit of $38.2 million before tax on revenues from operations of $382 million, as I mentioned. Based on this metric, it may seem that the current drilling mix of part-Permian, part-Mid-continent is working out alright. As I pointed out many times in the past, however, shale producers are not really well-served by the official measure of operating profits, because capital spending tends to be a big issue. As I pointed out in previous articles, diversified oil majors such as Shell (NYSE:RDS.A) is expected to spend only about 12% of its revenues on capex, while most shale producers tend to spend 45-65% of revenues from operations on capex, with some going even higher, especially if they intend to increase production.

According to its 2017 guidance, Cimarex may be expected to produce an average of about 1.11 Bcf equivalent per day or about 402 Bcf for the year. It is an increase of 13% over 2016. Based on my assumption of an average price for oil of $60/barrel and the natural gas spot price of $3.50 for the year, the average realized price that Cimarex is likely to realize is about $5/mcfe, compared with $3.46 in 2016.

Source: Cimarex.

As we can see from the chart, not only is the assumed price of oil & gas higher, but the volume of liquids is also set to increase as a percentage of total production. Based on the assumed price of $5, total revenue from operations in 2017 should be about $2 billion, compared with $1.3 billion in 2016. Given plans to spend about $1.15 billion on exploration and development, the percentage of revenue that will go to capital costs in 2017 is about 58%.

As we can see, Cimarex is not among the best performers when it comes to getting the most revenue per unit spent drilling for oil & gas. It probably wants to improve on this track record by drilling more in the Permian.

Source: Cimarex.

If we compare with last year’s well completion data, which I also provided in this article, we can see that most of the increase in completions for this year is set to happen in the Permian. If we look at well production data from both regions, the desire to shift is understandable.

Source: Cimarex.

Source: Cimarex.

As we can see, the Wolfcamp wells are likely to produce significantly higher volumes compared with the Mid-continent acreage. It is not a perfect comparison, because the Mid-continent wells data is for only 180 days, but if we compare where the Permian wells average at 180 days, we can see that cumulative production is about 100,000 Boe higher. Even when factoring in the fact that the Permian volumes contain a lower percentage of oil, it is still clearly a superior drilling prospect.

With about two-thirds of good completion happening in the Permian this year, we get a glimpse of what Cimarex profitability will be like if it becomes a predominantly Permian producer. I already pointed out that assuming an oil price of $60/barrel and the gas spot price at $3.50, Cimarex is likely to produce about $2 billion in revenue from its operations. Capital costs will be about $1.15 billion. In addition to that, there are the interest costs, which came in at $80 million for 2016. I will assume it will be similar this year as well. Operating cash costs will come in at about $680 million, based on 2017 guidance. Total cash costs are therefore going to come in at about $1.91 billion, which is more or less the same as expected revenues of $2 billion, based on my price assumptions for the year.

Based on this we can conclude that the actual breakeven of Cimarex is at an oil & gas price level of $60/barrel & $3.50/Million BTU’s respectively. It is, in fact, doing much better when examined by this measure compared with a lot of other shale companies I looked at, including the ones listed on the capex comparative chart. In this regard, it is closer to the likes of EOG (NYSE: EOG), which as I pointed out in a previous article, is likely to achieve cash flow positive from operations this year, which is not something we can say about most other mainly shale producers I looked at so far. In this regard, Cimarex is looking like it is on the edge of being part of the shale elite.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.