Penn West Petroleum Ltd. Is in the Process of a Massive Turnaround

Penn West Petroleum Ltd. (TSX:PWT)(NYSE:PWE) was not prepared for falling oil prices. When oil peaked in 2014, the stock lost 90% of its value. Since hitting a low of $0.45 in September, however, shares have been on a tear. Last week, the stock topped out at over $1.50. Meanwhile, the price of oil has languished around $40-50.

Clearly, investors are singing a different tune than they were just a few months ago when shares were priced for bankruptcy. What’s happened?

This is how you stage a recovery

In 2013 Penn West had a net debt level of $3.4 billion. That was back when the stock price was above $10 and oil was over $100 a barrel. After oil fell 50%, servicing the debt became nearly impossible. Drastic moves were necessary.

While selling assets in a bear market is typically not ideal given lower selling prices, it was imperative for Penn West to unload properties fast. Over the last 27 months, the company disposed of nearly $2 billion in assets, bringing its net debt down to just $1.8 billion. Notably, the company was able to sell properties for an average of $50,000 a barrel equivalent oil per day. This is surprisingly close to transaction metrics a few years ago when prices were much higher.

Costs have fallen dramatically

If you can’t get higher selling prices, one of the best ways to improve profitability is to control costs. In 2013, total operating costs for Penn West’s properties were about $770 million. For 2015, costs have fallen to only $620 million, representing a roughly 20% decline. Importantly, these metrics are for existing properties only, meaning that they aren’t skewed by the massive asset sales.

In 2016 management expects costs to fall by another 5-10%. If this happens and oil prices stay consistent, a few of the company’s major projects may turn profitable. This gives Penn West an excellent chance at breaking even next year, a previously unthinkable feat.

It’s not over yet

Even with the massive turnaround, hurdles remain. Most importantly, the company must still figure out how to service its remaining debt obligations. While some of its projects are primed to turn profitable, interest payments are still eating into profits. For every year from 2016 to 2020, Penn West faces over $200 million in annual debt maturities.

While the recent business transformation should give investors more optimism for refinancing much of this debt, it’s far from a guarantee.

Penn West does have one guaranteed lifeline, however. As of last quarter, the company still had $700 million in unused credit lines available. If refinancing proves more difficult than expected, it can cover a few years of debt payments with this facility alone. However, don’t be surprised to see more asset sales.

The turnaround is for real

While many stocks rebound strongly in anticipation of a turnaround, Penn West appears to have actually executed a revival. After avoiding disaster, the company now looks to break even in the near future, despite the low oil-price environment. If it can continue its strategy and secure refinancing for its remaining debt, shares have plenty of further upside.

Want to know our TOP turnaround stock pick?

When companies fall from grace like this Canadian icon did, it's typically impossible to regain relevance. Here at Motley Fool Canada, we think this company and its CEO are prepared to prove all of the doubters wrong. We have even named it one TOP turnaround stock for 2015. Will you be left on the outside looking in should our intuition come to fruition?

If you're a curious soul (like me), then you can download the name, ticker symbol, and price guidance absolutely FREE.

Simply click here to receive your Special FREE Report, "A Top Turnaround Stock Idea for 2015."

Fool contributor Ryan Vanzo has no position in any stocks mentioned.

NEW! This Stock Could Be Like Buying Amazon In 1997

For only the 5th time in over 14 years, Motley Fool co-founder David Gardner just issued a Buy Recommendation on this recent Canadian IPO.

Stock Advisor Canada’s Chief Investment Adviser, Iain Butler, also recommended this company back in March – and it’s already up a whopping 57%!

Enter your email address below to find out how you can claim your copy of this brand new report, “Breakthrough IPO Receives Rare Endorsement.”

I consent to receiving information from The Motley Fool via email, direct mail, and occasional special offer phone calls. I understand I can unsubscribe from these updates at any time. Please read the Privacy Statement and Terms of Service for more information.