Equal Energy Ltd. Message Board

Resuming Coverage: High Leverage to Mid-
Continent NGLs

Div. (NTM) $0.20
Div. (Curr.) $0.20
Yield (Curr.) 6.5%
Rating: 2-Sector Perform Target 1-Yr: C$4.00 ROR 1-Yr: 35.5%
Risk Ranking: High
Valuation: 1.0x our 2P NAV plus risked upside.
Key Risks to Target: Oil and natural gas prices; Drilling program success.
Event
■ We are resuming coverage of Equal with a 2-Sector Perform rating and
a one-year price target of $4.00/sh.
Implications
■ Strategic Alternatives Concluded. During the process, Equal divested of
~$130M of assets (including all of its Canadian assets and liabilities)
and reduced its net debt to $23M (from $149M). The company also
announced a US$0.20/sh annual dividend (payable quarterly).
■ 2013 guidance and updated forecasts. Equal is guiding to a 2013 capital
program of $36M and production of ~7,900 boe/d (52% natural gas).
Based on this program, we forecast 2013 CFPS of $0.82 and simple
payout and sustainability ratios of 27% and 150%, respectively. We
forecast Equal exiting 2013 with net debt of ~$34M and a D/CF ratio of
~1.2x.
■ High leverage to mid-continent NGLs. With 58% of its natural gas
production hedged, Equal's 2013 cash flow is highly sensitive to the
price it receives for its NGL production (~46% of volumes). For each
US$0.10/gal (US$4.20/bbl) change in the price of Conway propane, we
estimate Equal's 2013 cash flow sensitivity at ~$3.7M ($0.11.sh) or
12%.
Recommendation
■ Our one-year target-price of $4.00 is set at 1.0x our estimate of Equal's 2P
NAVPS and our rating is 2-Sector Perform.
Pertinent Revisions
New Old
Target:
1-Yr $4.00 $7.00
CFPS12E $1.08 $1.85
CFPS13E $0.82 $1.90
New Valuation:
1.0x our 2P NAV plus risked upside.
Old Valuation:
0.9x our 2P NAV plus risked upside.
Qtly CFPSStrategic Review Concluded
■ During its strategic review, Equal divested of ~2,700 boe/d of production and ~7.3. mmboe
of 2P reserves for proceeds of ~$130M, yielding metrics of ~$48,000/boe/d and ~$18/boe.
The divestitures included all of the company’s Canadian production, reserves, asset
retirement obligations and tax pools, bringing its Canadian operations to a close.
■ Proceeds from the sales were used to reduce the company’s net debt to ~$23M (from
$149M). Equal currently has $45M of convertible debentures outstanding (6.75% annual
interest; conversion price of $9/sh; mature on March 31, 2016) and an expected year-end
2012 cash position of ~$22M. With the completion of the assets sales, the company’s credit
facility has been set at $125M (reduced from $200M).
■ Equal’s sole remaining asset is its central Oklahoma Hunton liquids-rich natural gas play.
The company has ~7,800 boe/d (52% natural gas) of production and ~8,700 net acres of
undeveloped land across 62 sections in the area. Going forward, Equal will transition its
corporate base to its Oklahoma City office and reconstitute its team with local staff to more
effectively focus on its assets.
■ The company is open to pursuing accretive acquisitions; however, given its current trading
metrics (~$18,400/boe/d and ~$6.30/boe) and desire to limit the use of debt, we believe it
will remain focused on its existing asset base over the near term.
■ As part of the review, Equal considered converting to a Foreign Asset Income Trust (FAIT)
but instead opted to pursue a growth plus yield model, announcing a US$0.20/sh annual
dividend (payable quarterly) commencing in 2013. The dividend represents ~27% of our
2013 cash flow forecast.
2013 Guidance and Updated Forecasts
■ Equal is guiding to a 2013 capital program of $36M and annual average production of ~7,900
boe/d (52% natural gas). Based on this program, we forecast 2013 CFPS of $0.82 and simple
and effective payout ratios of 27% and 150%, respectively. We forecast Equal exiting 2013
with net debt of ~$34M and a D/CF ratio of ~1.2x.
■ The company’s natural gas production (~58% hedged at US$3.71/mmBtu in 2013) is priced
on Southern Star natural gas (typically a US$0.20-US$0.50/mmBtu discount to Henry Hub),
while its NGL production, on average receives ~89% of Conway propane pricing. Our
forecasts are based on 2013 average pricing of US$3.50/mmBtu for Henry Hub natural gas
and ~US$0.85/gal (US$35.70/bbl) for Conway propane.
■ Based on our commodity assumptions, Equal's 2013 effective payout ratio is above those of
its peers (both dividend payers and FAITs), despite a lower simple payout and yield (see
Exhibit 1). The company will need improved commodity pricing (particularly NGLs) in
order for its payout to move into a more sustainable range (see Exhibit 2).
Exhibit 1 - 2013E Payout Ratio
2013E
Yield Simple Payout(1) Effective Payout(2)
Company (%) (%) (%)
Equal Energy EQU 6.5% 27% 150%
Longview Oil LNV 9.2% 46% 127%
Whitecap Resources WCP 7.0% 33% 100%
Zargon Oil & Gas ZAR 9.0% 31% 152%
Eagle Energy Trust EGL.UN 13.9% 64% 133%
Parallel Energy Trust PLT.UN 14.5% 68% 99%

Sentiment: Strong Sell