This article was updated on April 9, 2018, and originally published on Sept. 9, 2017.
The Permian Basin in Western Texas is the place to be these days. Thanks to the oil-rich nature of its rocks and lower drilling costs, shale drillers can earn lucrative returns by drilling new wells in the Basin at current oil prices. That has fueled a land rush over the past couple of years as drillers have snapped up acreage so they can deliver high-return growth in the future.
While hundreds of companies are currently operating in that legacy oil play, two pure-play producers stand out as no-brainers for investors seeking to ride the industry's coattails: Pioneer Natural Resources (NYSE:PXD) and Concho Resources (NYSE:CXO). Here's why those investors who want to add the power of the Permian to their portfolio should consider this duo.
The Midland Basin leader
Pioneer Natural Resources is the largest acreage holder and producer in the Midland Basin side of the Permian. The company produced an average of 272,000 barrels of oil equivalent per day in 2017, which is more than the combined output of the next three largest companies. Overall, Pioneer has more than 750,000 total acres in the play, which it estimates holds more than 20,000 high-return drilling locations that could eventually unlock 11 billion barrels of oil equivalent (BOE) resources. That inventory supports the company's view that it can boost its oil output by a 20% compound annual growth rate through 2026, boosting it up to 1 million BOE per day. Even better, the company can achieve that ambitious plans while living within cash flow at $58 oil in 2018, with that breakeven level sliding down to $40 a barrel by 2026.
In addition to that vast portfolio of drilling locations that can earn internal rates of returns around 65% assuming oil is in the $50s, Pioneer also boasts one of the best balance sheets in the sector. The company expects to end 2018 with a microscopic net debt-to-operating cash flow ratio of just 0.5 times. Further supporting its strong financial position is the fact that it finished 2017 with $2.2 billion of cash and liquid securities as well as $1.5 billion of available credit.
Despite that industry-leading resource base and top-tier balance sheet, Pioneer Natural Resources' stock price has taken a hit in the past year because of some minor issues. However, with the growth this oil stock has in the forecast, it could fuel tech-stock-like returns for investors in the coming years.
A pure play on the whole Permian
Concho Resources shares many of the same qualities as Pioneer. However, one key difference is that its acreage position covers the entire Permian Basin, including the Midland Basin to the east as well as the northern and southern sections of the Delaware Basin and the New Mexico shelf. It's a position Concho has bolstered in 2018 by making a needle-moving deal, paying $9.5 billion to acquire rival RSP Permian (NYSE:RSPP). Once completed, the deal will create the largest shale producer in the Permian, with significant expansion potential.
That increased scale will enable Concho to earn higher returns because it can drill longer wells while optimizing development. In fact, the company sees the potential for more than $2 billion in future cost savings from this transaction. If the combined company can reach its full potential, this transaction has the potential to create meaningful value for investors over the long term.
Another important facet of Concho Resources is its top-tier balance sheet. While the company will assume RSP Permian's debt, it expects to maintain its investment-grade credit ratings, which should further improve as it captures future cost savings. That excellent financial profile, when combined with the fact that Concho can deliver more than 20% compound annual production growth over the next few years within cash flow at current oil and gas prices, makes it a no-brainer for investors who want exposure to the entire Basin.
Great companies at even better prices
Concho Resources and Pioneer Natural Resources control top-tier positions in the Permian Basin, which should fuel robust growth over the next few years at current oil prices. Add in the fact that both boast strong balance sheets, and these oil stocks can thrive even if crude prices dip. While the shares of both companies have underperformed as oil prices rebounded in the past year, that seems like a no-brainer opportunity for long-term investors to grab these Permian-focused oil stocks at even better prices.