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Legacy Reserves: A Compelling Value Opportunity

- By Holly LaFon

Executive summary:

Legacy Reserves Inc. (LGCY) presents a startlingly asymmetric risk-reward profile with substantial upside (3x to 13x returns from third quarter 2018 prices over the next 12 to 48 months). Please see the presentation included below for a detailed overview of this thesis.

Both cyclical and structural inefficiencies are at work to create this opportunity and to shield it from the market's watchful eye. Legacy has operated a hated business model (upstream MLP) in a sector that has generally been out of favor for nearly four years. They have pivoted their business model and have very recently changed their legal structure (MLP to C-corp). This will lead to forced buying from passive index funds in the near term and provides Legacy better access to capital markets.

As a yield-generating MLP, they were sitting on low-decline (less than 11%) Proved Developed Producing (PDP) reserves in addition to extensive horizontal drilling locations, which now enable Legacy to deliver explosive Ebitda growth while spending within operating cash flow. Ebitda is currently at the highest level ever (second quarter trailing 12 months approximately $284 million); we forecast Ebitda to be around $500 million in 2019, roughly $930 million in 2020 and about $1.4 billion by 2022, which would result in fair values of approximately $31 per share, $43 per share and $59 per share, respectively. Compared to Sept. 20, 2018, price of $4.85, this is a substantial opportunity.

Also included in this report is an in-depth sensitivity study, showing the impact of various factors on the valuations mentioned above. Additionally, an asset analysis is included, estimating net assets currently worth twice the market cap on liquidation value alone, which provides a substantial margin of safety and a very low likelihood of permanent capital loss.

(Peer companies mentioned in this report include Callon Petroleum Company (CPE), Concho Resources Inc. (CXO), Diamondback Energy Inc. (FANG), Laredo Petroleum Inc. (LPI), Contango Oil & Gas Company (MCF), Parsley Energy Inc. (PE), Pioneer Natural Resources (PXD), Resolute Energy Corp. (REN), Cimarex Energy Co. (XEC) and others.)


We do not hold a position with the issuer such as employment, directorship or consultancy.

We and/or others we advise hold a material investment in the issuer's securities.

This article first appeared on GuruFocus.