EOG Separates From the Pack

 | Sep 25, 2013 | 12:00 PM EDT  | Comments
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Stock quotes in this article:

eog

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crzo

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rose

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nbl

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clr

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wll

EOG Resources (EOG) has been a favorite oil-and-gas name of mine for a while. There are no other players that have leading positions in both the Eagle Ford and Bakken shales. That's why I recommended it (on another website) back on March 26 as the best way to take advantage of oil-production growth in the U.S.

Since then, EOG has done nothing but amaze. The company has built up horizontal drilling inventory in the Permian while relentlessly optimizing its operations in the Bakken and Eagle Ford. These guys are relentless, and that's why their stock has risen about 35% since I last recommended it.

Particularly impressing are EOG's Eagle Ford operations, which really encapsulate the best-in-class practices and spirit of continuous improvement in this company.

Last quarter, EOG's Eagle Ford well costs -- already best in class -- continued to come down. On average, a completed well in the Eagle Ford now costs only $5.5 million. This is a full $1.5 million lower than the next closest known competitor in this shale.

Management has turned the Eagle Ford into a "capital return machine" by focusing on drilling and completion improvements all across the shale. While many experts thought the western portion of the shale (closer to Laredo than to San Antonio) would be weaker than the eastern side, EOG has managed to even out production in both areas. Improved efficiencies and longer laterals also contributed to cost and production, respectively. With the largest acreage position, highest production and lowest cost base, nobody will catch up with EOG in South Texas.

Most upstream companies see big efficiency improvements in a field only when it has already matured -- but not in this case. EOG is unique in that it's markedly more efficient than its Eagle Ford peers, but still growing output at levels comparable to smaller, younger names. Its estimated production growth rate of 35% is right in the range of mid- and small-cap players such as Carrizo (CRZO) at 40% and Rosetta (ROSE) at around 20%.

At the same time, EOG brings all the benefits a large-cap name should. The company has a strong balance sheet (debt is only 28% of market capitalization) and a great cash flow base: Despite all the growth, operational cash flow funded about 89% of all capital expenditure in the past 12 months. Also, unlike the three mid-cap names I listed, EOG pays a growing dividend. Right now, EOG has the best of both worlds. In reducing well costs to levels that are much lower than those of its competitors, EOG has really separated itself from the Eagle Ford pack.

Today EOG stock is more expensive than it was in March, and it has reached a fairer value at 3.2x book value. When comparing valuations with its actual peers -- large-cap growth names in North America -- it is less expensive than Continental (CLR) at 5.2x book but more expensive than Noble (NBL) at 2.7x and Whiting (WLL) at 1.8x. The easy money has been made for now, but I think EOG would be great on any pullback of 3% to 5%.

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