TSX energy stocks continue to trade in the value zone with depressed valuations but handsome growth prospects. However, recession fears will likely continue to weigh on them for some more time.
A few midcaps look far more interesting after the recent sell-off. Baytex Energy (TSX:BTE) is one of them, returning 900% since the pandemic. Peer Crescent Point Energy (TSX:CPG) stock has returned 430% in the same period.
With substantial balance sheet improvement, both have taken an inorganic route towards expansion recently. How shareholders will benefit in the long term remains to be seen.
Baytex Energy: Expansion in the US Eagle Ford will be a key growth driver
Baytex Energy has a diversified asset base mainly in the Vikings, Canada and US Eagle Ford. It aims to expand its footprint in the Eagle Ford Basin by acquiring Ranger Oil Corporation. The acquisition is expected to lower Baytex’s overall break-even price as well as give it important access to the US Gulf Coast.
Even though the transaction will increase Baytex Energy’s debt, the management is focused on deleveraging. Post-closing, the company will likely have a leverage ratio of around 1x. The acquisition will likely increase its free cash flow growth by 20%. Once the debt target is achieved, BTE aims to allocate 50% of its free cash flows to share repurchases.
BTE stock is currently trading at a price-to-free cash flow of 3 times and is one of the most undervalued names. In comparison, TSX energy stocks are trading 7 times their free cash flows.
Crescent Point Energy: Capital returns will drive shareholder value
Crescent Point Energy recently completed its strategic acquisition of liquids-rich Montney assets. The transaction is expected to boost its cash flows by 20%, a potentially higher allocation for higher shareholder returns.
Crescent Point has preferred both dividends as well as buybacks to return cash to shareholders. In Q1 2023, it returned $103 million to shareholders and intends to return 50% of free cash flows. According to the company guidance, it is forecast to generate $1.1 billion in free cash flows this year. CPG currently yields a decent 4.3%.
On a valuation front, CPG stock is trading 4.4x its free cash flows and looks richly valued compared to BTE. However, it is still undervalued compared to its peers. CPG’s superior drilling results in Montney and balance sheet improvements could create considerable shareholder value.
If I have to pick between Baytex and Crescent Point, I think BTE has an edge over CPG. That’s because the stock has suffered disproportionately as its depressed valuation suggests. Its balance sheet strength and superior growth prospects, mainly after completing the expansion in the US, deserve a higher valuation multiple.
Energy names have fallen off a cliff and have lost 25% since mid-2022. Baytex Energy is no different a story. It has in fact halved in the last 12 months, underperforming its peers. The only thing that will bring respite for TSX energy stocks and investors is crude oil. If higher demand from China or lower supply from Russia hit the market, oil will likely see a significant rally.