When a company engaged in the business of natural gas transmission expands into exploration and production, the resulting operations are typically strong. And this is exactly what Houston-based El Paso
Bright business plans
The company, which has more than 42,000 miles of interstate pipeline network, plans to expand its E&P operations by aiming to achieve an average daily production between 790 million cubic feet equivalent (Mmcfe) and 840 Mmcfe -- up from 782 Mmcfe in 2010 and 763 Mmcfe in 2009. In fact, El Paso expects $1.3 billion in capital expenditures during 2011 for further development of its Haynesville, Eagle Ford, Altamont, and Wolfcamp assets.
In general, past performance has been quite impressive. The company's compounded annual growth rate of EBIT, or operating income, over the past five years stands at 27.5%. Expanding operations has been a norm for this company, and this trend should continue for the foreseeable future.
El Paso's peers don't really compare. TransCanada
A 10.5% return on equity for the company isn't too bad. However, the value, which stood at 21.7% a year before, has seen a sharp slide. This isn't surprising though since there has been a sharp rise in equity raised in the form of additional paid-in capital to fund El Paso's aggressive growth. A lower percentage might continue for some time since net earnings could stagnate till the expansion bears fruit.
How is the stock valued?
This is how El Paso stacks up against its peers:
Source: Capital IQ, a Standard & Poor's company.
El Paso's stock looks quite cheap when compared to its peers. However, its total enterprise value is on the higher side, thanks to total debt of $14 billion. But this should not be a problem since the company has leveraged itself for growth plans. An interest coverage ratio of 2.4 times should allay any fears regarding its short-term solvency.
One thing to note is that the book value of assets looks slightly overpriced since the company has yet to develop its assets in Eagle Ford and Haynesville fully. Once production increases, I expect the book value to go up, bringing down its price-to-book value. Short-term future growth does not look impressive either, for obvious reasons.
Foolish bottom line
With natural gas expected to grow in demand, El Paso will only stand to gain. As of now, the stock looks underpriced compared to its peers. While the short-term view may not look too promising, I believe this company has a long way to go. It seems that Mr. Market has yet to incorporate these factors in to the stock.
Fool contributor Isac Simon does not own shares of any of the companies mentioned in this article.
The Motley Fool owns shares of Devon Energy and El Paso. Motley Fool newsletter services have recommended buying shares of TransCanada. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.