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  1. Home
  2. / Investing
  3. / Energy

Restructuring Brightens the Horizon for Energy Companies

Some names in the oil patch are getting patched up.
By SHAM GAD Aug 23, 2016 | 04:00 PM EDT
Stocks quotes in this article: CHK, XCO, CNX, MUR, SN

In many ways, the energy crisis is similar to the housing crisis that began to unfold in 2007 and 2008. Fueled by higher prices, real estate and energy firms took on massive amounts of debt to juice returns. Rising housing prices made the use of leverage look brilliant until it wasn't. Oil at $100 a barrel made energy exploration at any cost look brilliant until it wasn't. 

A key difference between the housing crisis and the energy crisis is timing. Energy companies today are operating in a zero-interest-rate environment, so well-run but over-levered energy firms have options that homebuilders did not. Because alternative return profiles are low, bondholders and lenders are willing to come to the table and listen to alternatives. 

As a result, that has meant explosive opportunities for equity holders. Take Chesapeake Energy (CHK) , which over the past two years was thought to be headed for bankruptcy. The situation climaxed in February when shares fell to $1.50. Today, they sit at over $6. Perhaps the 300% return is gone for good, but over the next several years, CHK could be an easy double from here. 

One opportunity that remains wide open for huge upside is Exco Resources (XCO) . Exco's biggest problem, in my view, is that natural gas prices have not moved up as much as oil prices. But Exco's balance sheet has improved magnificently over the past couple of years and you now have a board of directors that owns nearly 50% of the equity. Management is taking cash and using it to buy debt at a fraction of face value. Trading at about $1.30 per share, Exco could be worth multiples in a couple of years with only modest improvement in energy prices, thanks to managerial competence. 

You may not realize it, but carefully selected energy stocks have been the best performers by far in 2016. Names like Consol Energy (CNX) , Murphy Oil (MUR) and Sanchez Energy (SN) are all up by nearly triple digits since bottoming out in February. Year to date, they are significantly outperforming the S&P. 

To be sure, there have been significant business failures in the energy sector over the past couple of years and there are likely more to come. However, even in this lower price environment, many companies have been able to restructure and de-lever while maintaining healthy levels of production with very successful results for shareholders.

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At the time of publication, Gad was long SN and XCO bonds, although positions may change at any time.

TAGS: Commodities | Markets | Energy | Investing

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