Cimarex Energy (NYSE:XEC) has been one of the Fund's largest detractors from performance this year, down roughly 4% YTD. We've written extensively about why XEC is one of our largest positions and the thesis hasn't changed. What has changed is sentiment around the entire oil and gas space, driven by recent petroleum and petroleum product inventory builds in the U.S. and a weakening global demand outlook. We believe that XEC has one of the best management teams in the exploration and production (E&P) industry as well as some of the most productive acreage in the prolific Permian Basin. In combination, XEC has produced in our view, attractive adjusted returns on capital and we believe they will get even more efficient with their assets now that they are targeting a three-year development plan based on greater predictability around well performance.
Additionally, it should be noted that recent returns have been depressed due to numerous well configuration pilots, midstream buildout, and a wider than usual spread between XEC's commodity price realization and index prices due to transitory pipeline constraints.
The chart above highlights how management structurally improved returns (adjusted for asset impairments) despite lower prices, where they now generate mid-single digit returns on capital at $40 oil vs. near zero returns in 2015. Directionally, we believe management's assertion that the company can generate attractive full cycle returns even at $40-45 WTI has some merit.9 This return profile combined with XEC's balance sheet and roughly 5.3x EV/EBITDA multiple give us confidence in the risk reward.10
From FPA Capital Fund (Trades, Portfolio)'s seocnd quarter 2019 commentary.
This article first appeared on GuruFocus.
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