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Is Apache Corp. a Buy?

By Matthew DiLallo – Mar 19, 2018 at 8:34AM

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The U.S. oil producer believes it has uncovered a hidden gem that could create tremendous value for investors in the coming years.

A little over a year ago, Apache Corporation (APA 1.47%) surprised the oil and gas world by unveiling the discovery of a significant new resource play in an overlooked spot of Texas' Permian Basin, which it dubbed Alpine High. That initial announcement sent shares of the oil giant skyward, with it gaining nearly 20% in following few months. However, it has been all downhill since that peak, with shares giving back those gains and then some, falling more than 35% since the unveiling even though oil prices have risen by 35% over the same time frame. That underperformance, however, makes Apache a compelling oil stock for investors seeking a bargain.

Coming off the Alpine High

One of the issues holding down Apache's stock over the last year is that its Alpine High play hasn't delivered the quick burst of production it initially expected. However, that's not due to underperforming wells but because the company has deliberately slowed its pace to ensure it can extract maximum value from this position. As a result, it completed 37% fewer wells last year than previously expected and now plans on finishing 23% fewer wells this year. This pace puts it on track to end the year with 140 wells on production -- 50 fewer than initially anticipated -- which means that it won't hit the production target it set for the end of this year until the middle of 2019.

An oil pump with an orange sky in the background.

Image source: Getty Images.

One of the reasons Apache needed to slow its pace was because the company had to build the midstream infrastructure to support this development from scratch. The company spent $700 million through the end of last year on constructing the processing plants and pipelines needed to get the growing production stream from its newly drilled wells to existing infrastructure. It expects to spend another $500 million on midstream infrastructure this year and upwards of $1 billion through 2020. However, as that infrastructure comes on line, Apache will be able to maximize the value of every barrel it pulls out of the region.

About to hit the gas

Despite the slower-than-hoped start from Alpine High, this past year marked a return to a growth trajectory for Apache. That upward trend should continue this year, with the company anticipating that its adjusted worldwide production will increase by 7% to 13% this year and at an 11% to 13% compound annual growth rate through 2020. Fueling the bulk of that increase will be the company's Alpine High play, where it anticipates a stratospheric 150% compound annual growth rate from last year's low base.

That growing production stream should increase Apache's earnings in the coming years even if oil doesn't improve any further, which should help jump-start its stalled stock price. However, that's just one of several potential catalysts that could get Apache's stock moving higher. Another is the potential for a strategic transaction to unlock the value of the midstream assets the company built over the past few years. The oil producer could opt to sell a minority stake or the entire system to a midstream-focused company in a deal that would bring in an upfront cash payment, as well as reduce or eliminate much of the $1 billion in capital it needs to spend through 2020 to continue building out the necessary infrastructure.

In addition to unlocking value and reducing future capital needs, cashing in on its midstream system would also provide Apache with excess cash that it could return to shareholders via a stock repurchase program. Rivals Anadarko Petroleum and ConocoPhillips have both used the proceeds from asset sales to jump-start a stock buyback program in recent years. Those repurchases have paid immediate dividends for investors, considering that ConocoPhillips' stock is up 20% since it unveiled its buyback in late 2016, while Anadarko's is up about 30% since it announced its program last fall. Given that history, a similar authorization by Apache could provide a boost to its valuation. 

Several ways to win

While the initial excitement surrounding Alpine High quickly wore off, Apache still expects it to be a major growth driver in the coming years. As the output from the region ramps up, it could be just the fuel needed to get this oil stock moving higher. However, that's just one of several catalysts that could fuel gains for investors in the coming years, which combine to make this oil stock a compelling one to consider buying.

Matthew DiLallo owns shares of ConocoPhillips. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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