The start of a new a year is a great time to review your portfolio remove poorly performing stocks in industries that have less-than-optimal outlooks and add stocks that are poised to experience strong growth. While energy stocks have performed poorly since oil collapsed in late 2014, entering a prolonged slump, there are signs that crude is poised to break out with its price supported by an improved economic outlook and higher geopolitical risk.
One oil producer that has a long history of delivering value for investors regardless of sharply weaker prices is Parex Resources (TSX:PXT). It has substantially outperformed the market during 2019, gaining a notable 44% compared to the S&P/TSX Composite Index rising by a modest 19% over the course of the year. While Parex has pulled back modestly since the start of 2020, there are signs that it will continue to deliver solid returns even if oil remains weak.
Key to Parex’s success has been its ability to steadily grow production, despite weaker crude limiting cash flow and investment in drilling and well development. Between 2014 and the end of 2018, Parex’s oil production had a compound annual growth rate (CAGR) of 15%, and for 2019 it is expected to expand by a whopping 19% compared to 2018 to an average of 52,750 barrels daily. Parex has forecast that its 2020 oil output will increase by 5% year over year to a daily average of 55,375 barrels.
Higher oil output, in an operating environment where crude has firmed to see the international Brent price at US$65 per barrel, will give earnings a solid lift.
More importantly, Parex’s focus on controlling costs and ability to access premium Brent pricing means that it continues to report a solid netback, which is a crucial measure of operational profitability for an upstream oil producer. For the first nine months of 2019, Parex reported a netback of US$37.90 per barrel, which was significantly higher than its Canadian peers, highlighting the considerable financial advantage that it possesses compared to drillers operating in Canada.
Another very appealing aspect is that Parex is trading at a deep discount of 34% to its after-tax net asset value (NAV) of almost $33 per share. That highlights the considerable upside available, even after the solid gains made during 2019.
There is every likelihood that the value of Parex’s proven and probable oil reserves will expand. Between 2014 and 2018 Parex’s oil reserves grew at a CAGR of 29% and it reported a replacement ratio of 238% for 2018, indicating that reserves are expanding a solid clip, which significantly exceeds depletion from production. During 2019, Parex announced two oil discoveries in Colombia’s prolific Llanos Basin with the wells drilled successfully tested, and it completed the drilling of around 30 development wells, which will further boost its oil reserves.
For those reasons, it is likely that Parex’s after-tax NAV will expand once the value of its proven and probable reserves are calculated for 2019.
Parex’s growth during 2020 will be propelled by a series of catalysts. These include growing demand for Colombian heavy crude, because of diminished heavy oil output in Mexico and Venezuela. This, along with Alberta’s mandatory production cuts, has led to a shortfall in heavy oil supply, which is having a marked impact on U.S. refineries because many are configured to only process heavier crude blends.
A combination OPEC and Russia’s decision at the end of 2019 to shave another 500,000 barrels off their collective oil output and heightened geopolitical risk in the Middle East has given oil a solid boost. There is every likelihood that this will support firmer oil prices during the first half of 2020. Those factors indicate that oil will remain firm and that Brent will continue to trade at over US$60 per barrel during the first half of 2020, giving Parex’s earnings a solid boost.
Parex is poised to unlock considerable value during 2020, and it is very attractively valued, trading at a deep 34% to its after-tax NAV. Higher oil coupled with Parex’s growing oil reserves and earnings will give its market value a healthy boost, making now the time to buy.