There are many ways to play the energy sector. From a range of dividend stocks providing bond-like income to other companies that are certainly much closer to growth stocks, investors have a range of options to choose from.
For Canadian investors looking at the TSX, this fact is perhaps even more true. The Canadian stock market is chock full of energy stocks with varying levels of risk (and upside). In this article, I’m going to dive into Baytex Energy (TSX: BTE) and its recent 40% decline over the past year.
Here’s why I think that recent dip could be one worth buying in an energy stock some investors may feel is too risky to buy right now.
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What gives?
For starters, Baytex is one of those smaller energy producers that’s seen its balance sheet problems translate into price appreciation issues for investors.
After Baytex paid down its debt load to less than $1 billion at the end of 2022, that number has since ballooned to around $2.2 billion as of the end of last year. That’s not great, for a company that’s currently valued at around $2.2 billion.
In other words, investors are pricing the equity component of this company equally to its debt load. Investors looking for upside in Baytex need to believe the company’s operating model will be able to support further debt repayment down the road, with most investors largely ignoring Baytex’s 3.1% dividend yield.
Is Baytex really worth buying?
In my view, Baytex’s recent earnings results do paint a picture that suggests more financial flexibility could be on the horizon. The company smashed earnings estimates this past quarter, posting nearly $0.15 in EPS (compared to estimates of just $0.02). And despite a revenue shortfall this past quarter, this operational efficiency improvement has been noted by some investors.
With net income breaching the $150 million mark again and adjusted funds from operations exceeding $365 million, this stock is one that I think could be a disproportionate beneficiary of higher oil prices. With so much debt on its balance sheet on a relative level, even a small uptick in energy prices could take this stock much higher.
In my view, Baytex is essentially a leveraged play on commodity prices. That’s good for investors who think inflation is ahead.
So, what now?
If you’re of the view that higher-for-longer energy prices are going to be a feature of our society for a decade or more to come, Baytex does look like a compelling option here. The company has continued to increase its production (a 2% year-over-year increase most recently reported). And with all valuation ratios well below the sector average (and even Baytex’s historical average), one could make a value argument here as well.
That’s not to say Baytex isn’t without risk. This is a risky play; I’m not going to sugar coat it. That said, I do think Baytex has among the best risk/reward upsides in the market right now, at least for Canadian energy stocks.
