Pioneer Natural Resources (NYSE:PXD) made a splash in June, when it announced it was purchasing 28,000 acres in the Permian Basin for $443 million. To fully develop the production potential from the acquired acreage, Pioneer would need to turn to its capital program. The requisite spending just got a little bit easier to stomach, though, now that the company just received a $500 million payment from last year's Eagle Ford Shale Midstream divestment. The payment, which was the second installment from the over $1 billion in proceeds, will allow Pioneer to fully carry out its 2016 capital program. For investors, that's very good news. Here's why.
Planned 2016 capital program
When Pioneer acquired the 28,000 acres, it announced that it was increasing its 2016 capital program from $2 billion to $2.1 billion. In a June investor presentation, it explained the sources for the capital as cash on hand, 2016 operating cash flow, and the remaining proceeds from the Eagle Ford Shale midstream sale. It expects to fund its capital program through 2018 without taking on any additional incremental debt.
Pioneer plans to use 90% of this year's spending on its positions in the Permian Basin, which is the immense oil-producing region in West Texas. In the second half of 2016, the company will look to add five horizontal rigs in its prime Spraberry/Wolfcamp positions within the Permian. The rigs should begin producing in early 2017. The company also stated that it will use up to 13,000 of the newly acquired acres to trade for positions that will consolidate and expand its area of production, allowing longer horizontal wells and higher returns.
As an investor, I find it encouraging to see a company understand its revenue streams and successfully apply those to future growth strategies. Pioneer understood how it can take $500 million and utilize it to make strategic investments in its core business, and make no mistake, Pioneer's core business is the Permian Basin.
The Permian is the place to be
While the 2016 strategy looks promising, Pioneer still needs to show positive returns on its investments and show investors it can turn a profit. Fortunately, its substantial positions in the Permian Basin are an excellent indicator of potential earnings.
Pioneer owns roughly 800,000 acres of highly valuable land in the oil-producing region. It used those positions to produce 222,000 barrels of oil equivalent per day in the first quarter, but expects its annualized 2016 production to increase by 12% from last year. In 2017, it expects production to increase by 17% from its first-quarter production.
What's especially promising about the consistent production increases is that it has been closely correlated with lower production costs. Spanning the past six quarters, Pioneer has lowered the cost of drilling and completion in its Spraberry/Wolfcamp positions by 32%. While the lowered costs were partly driven by lower service costs, which could increase as oil prices drive higher demand for services, they were also driven by drilling and operating efficiencies. That type of correlation is what can lead to higher returns in the coming years.
To add further confidence about Pioneer's future, Wood Mackenzie, an energy consultant, said that shale oil -- found in regions such as the Permian Basin -- will make up the majority of new oil projects that are economically viable through 2025. It considers economic viability based on oil at $60 per barrel. The report calls out Pioneer as one company that will benefit from this trend, which is based on companies lowering costs of rigs and equipment while improving well productivity.
That is a very promising sign for Pioneer's future.
It's easy to look at Pioneer's first-quarter net losses of $267 million and wince. Long-term investing, though, sometimes requires a short-term memory. With the added Permian Basin acreage, plans to add rigs through 2016, and the second installment of its Eagle Ford Shale midstream divestment, Pioneer continues to put itself in a position to see increased returns in 2017 and beyond.