In the current macroeconomic environment of tremendous uncertainty, it's nice to find companies with exemplary risk management practices. In the upstream space, Linn Energy (LINE +0.00%) is a solid example. The company has one of the most conservative hedging strategies of any upstream operator and seeks growth through smart acquisitions.
Linn is truly unique among energy exploration and production companies. For starters, it's a publicly traded limited liability company that enjoys partnership tax status. In addition, it consistently seeks to acquire mature oil and gas assets with low-risk production profiles. Let's take a look at whether or not this unique strategy will pay off for the company.
A different kind of energy company
Houston-based Linn Energy is the eighth-largest publicly traded MLP/LLC in the country and the twelfth-largest U.S. energy producer. Its market capitalization of roughly $7.5 billion makes it the largest public MLP/LLC in the country, though it still trails other MLP heavyweights like Energy Transfer Partners (ETP +0.00%) and Magellan Midstream Partners (MMP +0.00%), which have market caps of around $13 billion and $9.7 billion, respectively.
Boasting a large and growing portfolio of long-lived oil and natural gas assets, Linn has approximately 5.1 trillion cubic feet equivalent of total proved reserves, of which 64% are proved and developed. These reserves are, more or less, evenly divided between liquids and natural gas, with 45% in oil and natural gas liquids (NGLs) and 55% in natural gas.
Importantly, Linn's reserves have a relatively long reserve life index of roughly 21 years, meaning that it would hypothetically take that long to deplete its current reserves at its current production rate.
A unique strategy
Throughout the years, Linn has displayed a clear-cut strategy with respect to the assets it purchases. It consistently seeks out acreage with low-risk production profiles – typically mature fields – and low operating costs.
This strategy has led the company to amass a large portfolio of mature oil and gas assets throughout the country. These assets tend to sport low decline rates and long reserve lives. Like many of its competitors, Linn seeks to offset natural production declines through acquisition-led growth.
Indeed, the company's numerous acquisitions over the past decade have been a major contributor to its impressive growth in distributable cash flow. Since the company went public, Linn's distribution, which currently sits at $2.90 per unit, has grown at a whopping 81% annualized rate.
Acquisitions ahoy
Since 2003, the company has made 54 separate acquisitions for a total of around $10 billion. This acquisition-led growth has accelerated dramatically over the past six years, with the exception of 2009. For instance, the years 2007, 2008, 2010, 2011, and 2012 together saw nearly $9 billion in acquisitions, which accounted for nearly 90% of the company's total acquisitions since 2003.
Back in February, the company inked two important deals with integrated oil major BP (BP +1.10%). First, it purchased 600,000 net acres in the Hugoton Basin of Kansas from the British oil giant for $1.2 billion.
The acreage boasts more than 2,400 long-lived wells that yield an average 110 million cubic feet of natural gas equivalent per day. With a vast inventory of 800 high-probability drilling locations, the Hugoton should be immediately accretive to distributable cash flow and provide a steady cash flow stream with minimal capital investment requirements.
Not only does the Hugoton acquisition provide Linn an entryway into the nation's largest conventional natural gas field, the field also sports a relatively low 7% decline rate and an 18-year reserve life that is consistent with the company's strategy.
And then, more recently, it bought BP's gas-producing assets in Wyoming's Jonah Field for a contract price of $1.025 billion. The deal marked Linn's fourth acquisition for the year, which brought the total value of its transactions this year to $2.4 billion.
The Wyoming properties, which are 73% natural gas, 23% NGLs, and 4% oil, are projected to add 145 million cubic feet of natural gas equivalent per day. Like the Hugoton Basin, the Jonah Field should prove to be an excellent and strategically consistent addition for Linn. The long-lived field sports a relatively low decline rate of 14%.
Final thoughts
Linn has a lot of things going for it. It has a strong balance sheet, which has allowed it to sit back and patiently wait for the right acquisition opportunities to come along. While some other energy companies, notably Chesapeake Energy (CHK +0.00%), have been in a rush to raise cash through asset sales, Linn has been on the other side of these transactions.
The company's recent acquisitions from BP, for instance, are beneficial from two different perspectives. First, they will likely boost distributable cash flow by a substantial amount. And second, they should offer considerable upside when natural gas prices recover.
In addition to seeking out low-risk assets with long reserve lives, Linn continues to demonstrate a strong focus on managing commodity price risk. Indeed, it is one of the most conservatively hedged upstream companies I've ever come across. It has hedged 100% of its expected oil production through 2016 and 100% of its gas production through 2017.
In a macroeconomic environment rife with uncertainty, which could lead to higher than usual volatility for oil and gas prices, Linn's safe approach should continue to draw the interest of risk-averse investors seeking solid distribution growth.
