Canadian energy companies have met or rather exceeded first-quarter (Q1) 2023 earnings expectations so far. However, enthusiasm is lacking, and TSX energy stocks continue to trade subdued. A mid-cap energy company, Baytex Energy (TSX:BTE) reported its Q1 2023 last week. It came out with a decent set of numbers but failed to uplift the stock. In the last 12 months, BTE stock has lost 25% of its value, but in the last three years, it has returned a stellar 1,035%.
Baytex Energy’s Q1 2023 earnings
Baytex Energy produced 86,760 barrels of oil per day in Q1 2023, marking a 7% increase year over year. It reported cash flow from operations of $185 million compared to $199 million in Q1 2022. The drop was quite evident, given the lower oil prices and a widened Western Canadian Select differential.
In February 2023, Baytex announced its agreement to acquire a pure-play Eagle Ford oil producer Ranger Oil. The acquisition is expected to significantly expand Baytex’s footprint in the Eagle Ford Basin and give it more gainful access to the U.S. Gulf Coast. Its production will also likely double in the next few years, with higher exposure to premium-trading light oil. Despite such favourable developments, the stock has failed to impress investors.
And that’s not the case only with Baytex. The sector has been seeing an overstated impact of a potential economic downturn. However, many of the bullish indicators have gone almost unnoticed. Even when oil companies are in their best health ever, coupled with discounted valuations, TSX energy stocks have lost 15% in the last six months.
In case of Baytex Energy, the stock is trading five times its 2023 earnings and three times its free cash flows. It is one of the most undervalued names in the Canadian upstream energy space. In comparison, TSX energy stocks trade at seven times earnings. Given its balance sheet improvement and earnings growth visibility, Baytex deserves to trade at least at the industry-average multiple.
Baytex Energy-Ranger Oil acquisition
The company expects to close its Ranger Oil merger by next month. While the entire sector is focused on debt reduction, Baytex will see a surge in its net debt position due to the acquisition. However, debt reduction remains a key priority for Baytex management. Its leverage ratio post-closing will be around one. After closing the deal, the company will allocate 50% of its free cash flows to deleveraging and the rest for shareholder returns.
Baytex Energy looks like a decent undervalued bet in the current environment. It’s enhanced scale and asset quality will likely accelerate its operational and financial growth. A larger chunk of light oil in its consolidated production profile should help margins. The acquisition is expected to bring down the company-wide breakeven price, which should boost its operating netback.
Conclusion
It is the unreasonably muted oil prices that have been weighing on TSX energy names. We will likely see an even steeper rally in Canadian energy stocks should the oil and gas prices see some recovery.
