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After a Failed Merger, This Oil Stock Plots a New Way Forward

By Matthew DiLallo – Updated Jun 4, 2019 at 8:31AM

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Denbury Resources outlines what it plans to do now that it has abandoned its acquisition of Penn Virginia.

Denbury Resources (DNR) thought it found a solution to its most pressing problems when it agreed to acquire Penn Virginia (PVAC 1.16%) late last year. That's because the transaction would not only reaccelerate its growth engine but improve its financial profile. However, the company abandoned that controversial merger earlier this year after it became apparent that investors wouldn't support the deal.

As a result, the company has had to come up with a new way forward. CEO Chris Kendall outlined what the company plans to do on its first-quarter conference call. Here are two main things he wanted investors to know about what they can expect from Denbury in the future.

Oil Industry Pump jack with one oil worker and laptop.

Image source: Getty Images.

We have no plans to boost spending

Given Denbury's weaker balance sheet, its current priority is to generate as much free cash flow as possible so that it can chip away at its debt. That's why the company only plans to spend $270 million to $300 million on new oil projects this year -- 20% to 25% less than last year -- which will result in its production declining about 4% year over year. By keeping a tight lid on spending, the company estimates that it can produce between $50 million to $100 million in free cash this year as long as oil averages around $50 a barrel, which it could use for debt reduction.

However, Kendall noted on the conference call that "the first quarter has been a remarkable reminder of both the volatility and the potential of the oil market. After entering the year at just over $45 WTI, prices have steadily climbed to above $60." The CEO further pointed out that "with oil accounting for nearly all our production, these price improvements coupled with our disciplined spending program and our strong operating performance, positioned Denbury to generate significant free cash in 2019, while still making the important investments that lay the groundwork for the company's future." He would go on to state that "as prices have now improved significantly, we currently expect to generate free cash well above $150 million this year."

This additional cash flow has many investors wondering if Denbury plans to ramp up spending. Kendall answered: "We don't. We are pleased with the current program and its expected outcome in both the near and the longer term." Instead of accelerating its growth rate, Denbury will use that excess cash to reduce debt and strengthen its balance sheet.

Drilling rigs in the mountains.

Image source: Getty Images.

We'd like a bit more balance

Another topic Kendall addressed on the call was Denbury's growth strategy. The company currently focuses on using enhanced oil recovery (EOR) techniques such as injecting carbon dioxide into legacy fields to grow its oil output. Those projects require a high up-front investment and a long-term time horizon but generate lots of cash flow once complete. That approach, however, leaves gaps when the company doesn't grow. That's why it wanted to acquire Penn Virginia since its shale drilling program can quickly deliver production, which would have helped plug Denbury's near-term growth gap.

That background helped frame Kendall's comments as he provided a big-picture overview of what's now ahead for Denbury. He stated that:

I would expect that the long-term future for Denbury is going to continue to be based on EOR... We have tremendous assets, both producing now and to produce in the future. And I see that that's a niche in the industry that Denbury can continue to excel in and one that's going to be needed in the future. So I continue to look for that. At the same time, I'd like to see us continue to build shorter cycle investment options, and I think that what you've seen with us so far in exploitation and what I hope that we're able to continue to build as we go forward is, providing some of that optionality within our own asset base and then what's nice about that as well as having that short cycle investment option is, that many of these opportunities can also become EOR targets later in their life. Mission Canyon is a great example of that.

In other words, while Denbury plans to continue focusing on EOR, it wants to balance out its opportunity set by finding more short-term growth opportunities within its existing acreage position as it did at Mission Canyon. That would enable the company to grow production at a steadier rate since those short-term opportunities can fill in the gap until its large-scale EOR project in the Cedar Creek Anticline comes on line in a few years.

Getting better organically

Denbury saw its proposed acquisition of Penn Virginia as the solution to its near-term growth problem as well as its balance sheet issues. However, with that deal falling apart, the company plans to take an internal approach to address both items. Not only does the company plan to keep spending in check so that it can generate free cash and pay down debt, but it intends on finding short-term growth opportunities on its existing acreage. While that means it will likely take a lot longer before the company is in the position to start growing again, it's a less risky approach than its bold acquisition.

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

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Stocks Mentioned

Denbury Resources Inc. Stock Quote
Denbury Resources Inc.
DNR
Penn Virginia Corporation Stock Quote
Penn Virginia Corporation
PVAC
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