We maintain our Neutral recommendation on Southwestern Energy Company (SWN) − an independent energy company engaged in the exploration, development and production of natural gas and crude oil in the United States.
Southwestern Energy’s vast acreage in the Marcellus Shale as well as in the Fayetteville Shale plays, encouraging drilling results as well as its focus on return on investment were partly offset by the depressed natural gas price environment.
The company is one of the largest producers of natural gas in the U.S. with core Fayetteville Shale properties spreading over 889,000 net acres. About 131 operated Fayetteville wells were put on production during the second quarter, driving record net production of 121.0 billion cubic feet per day (Bcf/d), up 13% from the year-ago level and 4.5% sequentially. Notably, the sequential rise occurred despite production being negatively impacted by 0.5-1.0 Bcf due to extreme heat.
Again, Southwestern is spending considerably for the development of the fertile Marcellus play, which currently holds 187,000 net undeveloped acres. The production from the region averaged 9.9 Bcf in the second quarter that nearly doubled the year-ago rate.
The company is also testing wells in numerous liquids-rich New Venture plays as it intends to establish a liquid-rich production growth profile. Southwestern’s third well in the Lower Smackover Brown Dense was completed and had a 24-hour initial production (IP) rate of 421 barrels per day of oil and 3.9 million cubic feet per day (MMcf/d) of rich gas. The company indicated that realized oil prices from this region will likely receive a premium of roughly $10 per barrel to WTI, given its closeness to four local refineries with a total capacity of 135 thousand barrel per day.
Southwestern boasts a strong balance sheet with significant liquidity and financial flexibility. It remains focused on generating economic returns. It is committed to projects returning at least 1.3x the present value index (PVI) and intends to only drill projects that meet that return threshold. Hence, the company’s determined focus on return on investment, in addition to its large drilling inventory, creates significant value for shareholders.
Houston, Texas based Southwestern Energy is the purest natural gas play in the sector. Natural gas accounts for almost all of the company’s reserves and production. Hence, the persistently low gas price scenario is curbing its spending level, thereby restricting growth. The company had announced earlier that it intends to spend less in Fayetteville this year in response to the low natural gas prices.
The current gas price environment has also shattered Chesapeake Energy Corporation’s (CHK) financial strength. The second largest natural gas producer in the U.S. is trying hard to meet its capital needs through its divestiture program. Chesapeake also exhibits a weak financial profile with a huge debt balance.
Again, we believe that Southwestern’s asset portfolio suffers from a lack of geographical diversification, with most of its activities concentrated in the Fayetteville Shale, Arkoma and East Texas fields. Thus, the company's earnings and cash flow streams are sensitive to regional pricing or upheavals.
In the light of the points discussed, we believe there is little room for above-market performance and as such we see the stock performing in line with the broader market. The company holds a Zacks #3 Rank (short-term Hold rating).
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