Attention Bargain Hunters: Magnum Hunter Has Run Its Course

There aren't many energy stocks that have risen more than Magnum Hunter Resources (NYSE: MHR  )  since last summer, surprising even the most optimistic investor of the energy patch. What is the secret behind Magnum's success? What has pushed Magnum to new highs for 2013? Does this rally have legs? To find the answers, let's dig deeper into this company. 

What? 
The company faced a bumpy road in the first half of 2013. First, it had to restructure its business in order to pay down its hefty long-term debt, which hit $1 billion back in March. In April, it sold its oil-weighted Eagle Ford acreage in South Texas to Penn Virginia Corporation  (NYSE: PVA  )  for a total purchase price of $401 million. This asset was the perfect fit for Penn Virginia's existing asset base, which is located adjacent to these properties. After this transaction, Penn Virginia's Eagle Ford pro forma production rose approximately 40%, and Penn Virginia currently has 420 net drilling locations in the Eagle Ford play and an eight-year drilling inventory, based on its ongoing six-rig program. 
 
Due to this transaction, Magnum's acreage shrank significantly, and the company had to focus on its producing Bakken and Marcellus properties along with its new core area, the Utica shale. Its remaining acreage in Texas was just 7,000 net acres and was obviously too small to attract the company's interest.
 
On top of that material asset sale, Magnum fired PricewaterhouseCoopers in April 2013. That auditor discovered information that "may have a material impact on the fairness or reliability of the company's consolidated financial statements," according to the company. That red flag pushed the stock down to its 2013 lows, making many investors throw in the towel and switch to greener pastures.
 
Things started to improve last summer when the new auditor helped Magnum become current with its annual and quarterly SEC reporting requirements, and regain compliance with the NYSE's continued listing standards. Production also jumped to 16,500 boepd (51% liquids), and Magnum now guides for a production exit rate of approximately 24,000 boepd for year end 2013.
 
After all, Magnum's stock has risen exponentially, climbing from $2.5 in May 2013 to approximately $7.3 as of today. 

So what? 
Magnum's valuation has skyrocketed. Excluding the company's midstream asset, the Eureka Hunter pipeline, which will be monetized by 2014 and has a net value of approximately $500 million, Magnum's current enterprise value stands at approximately $1.8 billion. Let's check out its peers below:
 

Company

EV 

($million)

Prod.

(boepd) 

(Est. Q4 13)

EBITDA

($million)

Proved

Reserves

(MMboe)

EV/EBITDA

EV/Prod.

($/boepd)

EV/1P

($/boe)

Magnum

Hunter

1,800

24,000

150

57.8

12

75,000

31.14

Enerplus

4,600

88,000

850

227.3

5.41

52,273

20.24

SM Energy

7,550

142,000

1,500

293

5.03

53,169

25.77

Penn 

Virginia

1,700

21,000

330

125.5

5.15

80,952

13.55

 
As illustrated above, Magnum's key metrics have a huge premium compared to its peers' with a balanced commodity mix, even if the best case scenario happens and Magnum achieves its production exit target for 2013. 

Now what? 
Thanks to "pad" related drilling and given the successful drilling results of other operators in the vicinity of its leasehold acreage, Magnum believes that its Utica properties will drive its production growth in the coming quarters and a substantial portion of its Utica Shale acreage will be added to proved reserves over time as more wells are drilled and delineated in this region.
 
However, the picture from Magnum's acreage in Utica is fuzzy currently because these properties aren't de-risked. Magnum has not announced any drilling results from its Utica acreage, leaving its shareholders literally in the dark.
 
Setting also high expectations from Utica seems to be optimistic because many wells have finally yielded far less oil than initially expected. According to Donald Templin, Marathon's vice president and CFO: "I would say the growth has been slower than we originally anticipated". Marathon Petroleum, the Midwest's largest refiner recently made changes at its 78,000 barrels-per-day refinery in Canton, Ohio, anticipating increased Utica crude output. So far it only processes 1,500 bpd of Utica oil and condensates.
 
According to Wood Mackenzie, the Utica will only be producing an average of about 200,000 barrels of oil by 2017, which is a fraction of the 1.15 million barrels of oil a day the Eagle Ford will be producing, according to the consultancy's projections.
 
Additionally, Magnum's valuation has already risen to outrageously high levels, and its premium relative to its peers is apparent. To me, a prudent investor has to lock in gains and switch to Magnum's peers.
 
For instance, Penn Virginia has a diversified portfolio that extends from the Mid-continent to the Marcellus and Eagle Ford formations. It has grown its production significantly in 2013, and projects full year 2014 crude oil production to be between 65% and 85% higher than the midpoint of 2013 production guidance. 

Enerplus (NYSE: ERF  )  is another company that continues to see strong performance from its core areas in both Canada and the U.S. Its Bakken and Marcellus assets in particular keep delivering ahead of expectations. Meanwhile, shareholders are collecting a hefty dividend of 6.3% annually while waiting for the stock to rise. 

Bottom line 
Stepping away from the pack, I am making a contrarian forecast. Magnum's stock is close to a turning point, while its peers have compelling valuations and strong growth prospects. So if I owned shares of Magnum, I would switch to cheaper plays before it is too late. Some might think that this time will be different. I believe this time won't be different: Magnum's stock won't rise indefinitely.

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Read/Post Comments (10) | Recommend This Article (3)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 04, 2013, at 2:24 PM, brooks1988 wrote:

    Nathan: You are obviously uneducated regarding MHR's prospects. While I agree MHR "will not rise indefinitely (what stock ever does)," your rationale for selling is misplaced and you obviously lack an understanding of MHR's reserves, pipeline, and estimated cash flow from new production coming on line shortly. In other words, I recommend doing a bit more homework before hanging yourself for being incompetent.

  • Report this Comment On November 04, 2013, at 5:59 PM, traderinvestor70 wrote:

    brooks,

    Unfortunately, there are not any facts to support your comments.

    All the data of this article (production, reserves, pipeline's value, EBITDA etc.) are in MHR's presentation and reports.

    By saying what you say you prove that you have no idea about MHR metrics.

    After all, I would like you to support your claims with FACTS, providing one single point of the article where the metrics above are wrong.

    Good luck.

    Nathan Kirykos

  • Report this Comment On November 05, 2013, at 1:18 PM, brooks1988 wrote:

    Well Nathan, your response tried to change the words of my criticism, which was based on your lack of understanding mhr's prospects. I didnt say your figures are wrong (although your estimated value of the pipeline is understated as GE has already turned down an offer valueing line at $600m, but why quibble with a $100m mistake?). Instead, I criticized you because you were not dealing with MHR's current prospects and just concluded illogically "it has gone up a bunch so it must be time to sell." You did not get the pipeline value right; you got the current reserves right but failed to mention entirely that no reserves have been booked for over 100k of utica acreage, and while you correctly quoted EOY targeted exit rate, you only used historical ebitda without a giant ramp up in cash flow associated with that exit rate. You didnt even bother to address the debt reduction effort.

    All in all, your conclusion lacked a meaningful basis because you used figures without understanding underlying prospects. If you were going to pick numbers out of MHRs presentations, you could have at least considered the conservative asset presentation presenting why assets are worth 8.50 to 13.30 a share -- but alas, that would have taken you to the OPPOSITE conclusion you were predisposed to reach. Any way you cut it, your analysis is misguided and/or the result of lame incompetence. You wanted FACTS? Well there they are..

  • Report this Comment On November 05, 2013, at 10:13 PM, stocks3066 wrote:

    Brooks I'm in your court - if your going to give estimates you need to consider all facts not just historical facts.

  • Report this Comment On November 05, 2013, at 11:25 PM, nmlobo6 wrote:

    Not to throw fuel on the fire but to throw out a billion dollar asset (600+ as of today) when doing comps is silly. Plus it looks like this may end up being twice that when its all said and done. I agree on some level that in the short term their may be some weakness especially this quarter. But you would have to be crazy to short this stock or sell if you're a long term investor. You don't sell Eagle Ford to reinvest in another play unless you know something and they know something I promise you. I know it's not easy putting yourself out there with an article so everyone can throw stones in the comment section. So I'll leave you with this I completely agree you on one thing, MHR can't go up indefinitely. I'll probably get out around $20.

    -nmlobo6

  • Report this Comment On November 06, 2013, at 3:10 AM, traderinvestor70 wrote:

    brooks,

    According to MHR's latest presentation, the estimated value of the pipeline is from $420 - $570 million. This gives an average value of $500 million, as I point out in my article. Apparently, you have not seen the presentation yet.

    You can buy the prospects, I buy the facts instead. MHR is not alone in the energy patch. Its peers are way cheaper and they do not lack of growth initiatives either.

    Do not also ignore that Utica is heavily natural gas weighted. Utica is not Bakken or Eagle Ford, as all the drilling results prove again and again. The Utica hype fades more and more.

    HK is another E&P company that recently lowered its expectations from Utica leaving only one rig drilling there.

    Good luck.

    Kind Regards,

    Nathan Kirykos

  • Report this Comment On November 06, 2013, at 9:25 AM, nmlobo6 wrote:

    Nathan, actually according to the actual latest information which IS NOT what you keep referring to as the "presentation" they have been offered 1 billion dollars and that is quoted from the CEO per the actual latest press which is the investors day they had on Monday.

    You among others keep saying the "Utica" is too much Nat Gas as if a 20 mmcfd with up to 40% liquids and better depletion than the EF or Bakken is viewed as a negative????? That's insanity.

  • Report this Comment On November 06, 2013, at 1:38 PM, traderinvestor70 wrote:

    nmlobo,

    As shown at the official corporate presentation of November 2013, the average value for the midstream asset is $500 million.

    Furthermore, this offer of $1 billion was not publicly available at the time of writing.

    Additionally, MHR holds 57% of the midstream asset. So even if they received an offer of $1 billion, this gives $570 million net to MHR.

    The difference of $70 million does not change anything substantial on MHR's overvaluation at $7.3

    Kind Regards,

    Nathan Kirykos

  • Report this Comment On November 07, 2013, at 10:37 AM, brooks1988 wrote:

    Nathan:

    You don't get it do you. First, you want to comment on a presentation that has been followed with the quarterly operations conf call, then the quarterly earnings call, and another investor presentation where GE represents the information in the presentation is dated. the Commentors (including me) are simply pointing out their information is better than yours because you did not do your homework.

    And your comments on HK show further you haven't done your homework as everyone knows the Utica has a dry gas section, but that the wet gas area is where MHR and PDC and GPOR and Antero among others are focusing because of that section's potential Moreover, if you did your diligence you would know HK's acreage is 60 to 80 miles to the north (turnbull and Mahoning counties) vs southern Noble and Washington counties AND there is a lack of infrastructure in HKs area HK wants to wait on AND HK wants to focus on getting El Halcon acreage derisked and held by production. Frankly, the more you comment, the more I am convinced you don't know jack about either MHR or the Utica except for a few "snippets" heard here and there.

    Going back to comment #1, all these comments of yours confirm you lacked sufficient information with which to reach your predisposed conclusion. You would have been better off taking the criticism and correcting yourself than digging in to show additional areas of your incompetence.

  • Report this Comment On November 07, 2013, at 6:36 PM, traderinvestor70 wrote:

    brooks,

    You keep offending me but I ll not follow you in this pathetic route. If you want to convince yourself and the other readers that you are the guru, you are free to do it. I ll tell you only this to end this debate:

    MHR was at $7.3 when I explained with facts why it was grossly overvalued.

    MHR is at $6.4 today, just a couple of days later after the syndication of my bearish article.

    Good luck.

    Kind Regards,

    NK

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