NuVista Energy Ltd (TSX: NVA) is a Canada-based oil & gas exploration and production company, which is actively engaged in the development, delineation and production of condensate, natural gas liquids ("NGL"), oil, and natural gas reserves in the Western Canadian Sedimentary Basin. NuVista's focus is on the scalable and repeatable condensate rich Montney formation in the Alberta Deep Basin.

Investment Rationale

• Gradually Improving oil demand is expected to benefit the company: In March 2020, the World Health Organization declared COVID-19 a pandemic. Responses to the spread of COVID-19 have resulted in a sudden decline in economic activity and a significant increase in economic uncertainty. In addition, oil prices have declined dramatically due to the global oil price war and decline in demand on account of COVID-19. These events have resulted in a volatile and challenging economic environment which has adversely affected NuVista's operational results and financial position. However, WTI Crude prices have improved by approximately 8.0% since the second quarter of 2020 and hovering near USD 43/bbl. Further, governments across the states have lifted the containment measures and allowed the industrial and manufacturing activities to resume, which is helping in the recovery of oil demand. Therefore, we believe that improved oil prices along with recovery in oil demand are expected to improve the group's financial performance in the near term.

• High Institutional ownership: The latest shareholding pattern indicates that the hedge fund owns a 9.98% stake in the company. This is worth considering from an investor point of view as hedge funds are typically considered as very active investors, who try to influence management, and they want to see value creation and higher stock price in short to medium term. Further, we also noticed that Pension Fund owns around 9.06% stake in the company and the total institution ownership in the company stood at 47.72%, which gives confidence to retail investors, as despite a market capitalization of CAD 216.39 million, there is a higher equity stake of institutional investors. 

• Strong Upside Momentum in the Stock: On YoY basis and YTD basis, the shares of NuVista Energy Ltd recorded steep correction in the price. But the stock is back into an upside momentum, as its shares have traded well above the crucial short-term moving averages of 30-day and 50-day Simple Moving Averages (SMAs). Also, the shares have traded above near-term 5-day, 10-day and 20-day SMAs, which reflects a bullish price trend in the stock. Further, the difference between the fast-moving length of MACD- 12-day EMA and slow-moving length 26-day EMA is positive, which indicates an upside momentum in the stock, also the MACD oscillator featuring above 9-day EMA, another favourable indicator. 

Source: Refinitiv (Thomson Reuters) 

• Leading Momentum Indicator 14-day RSI tilting towards overbought zone: The leading momentum indicator 14-day Relative Strength Index (RSI) hovering in neutral territory but tilted mostly towards the oversold territory, which reflects that the stock is carrying an upside potential from the current price level. Also, other momentum indicators like MACD, also indicating a potential upside as well.

• Risk Associated to Investment: Higher debt proportion in the company’s balance sheet is posing balance sheet risk; however, company is taking required action to repay its debts and net debt is expected to reduce by CAD 55-60 million in the second half of 2020. Further, the company is also exposed to the next wave of COVID-19 outbreak which could have an adverse effect on the underlying commodity prices and on the group’s financial performance as well.

2QFY20 Highlights 

Source: Company filings

For the three months ended June 30, 2020, petroleum and natural gas revenues decreased 53% to CAD 67.399 million from the comparable period of 2019, primarily due to a 54% decrease in average per Boe realized price, partially offset by a 1% increase in production for the quarter. For the six months ended June 30, 2020, petroleum and natural gas revenue decreased 31% to CAD 194.552 million over the comparable period of 2019, due to a 38% decrease in average per Boe realized price, offset by a 9% increase in production. Condensate & oil volumes averaged 28% of total production in the second quarter of 2020, contributing to 43% of total petroleum and natural gas revenues.

Source: Company filings

For the three months ended June 30, 2020, natural gas revenue decreased 14% to CAD 33.657 million from the comparable period of 2019, due to a 17% decrease in realized selling prices offset by a 4% increase in production. For the six months ended June 30, 2020, natural gas revenue decreased 21% to CAD 75.641 million from the comparable period of 2019, due to a 29% decrease in realized selling prices offset by an 11% increase in production.

Source: Company Filings

For the three months ended June 30, 2020, gross royalties decreased 40% to CAD 6.349 million as a result of the 54% decrease in the average CAD/Boe realized prices compared to the prior year comparative period. For the six months ended June 30, 2020, gross royalties increased 5% to CAD 19.295 million as compared to the comparable period of 2019 as a result of the production increases over the prior year, and the increase in average royalty rates, offset by the decreased average CAD/Boe realized pricing. Gross royalties as a percentage of petroleum and natural gas revenues increased as a result of a greater number of wells having fully utilized the royalty incentive programs which carried reduced initial royalty rates. The gross natural gas and liquids (condensate, oil and NGL) royalty rates were 7% and 12% in the second quarter of 2020 compared to 3% and 9% respectively, in the comparative period of 2019.

Average interest rates on long-term debt for the three and six months ended June 30, 2020 were 3.1% and 3.4% compared to average interest rates of 3.6% and 3.7% for the comparative periods of 2019. Interest expense on long-term debt includes interest standby charges on the Company's syndicated credit facilities.

Source: Company filing

For the three and six months ended June 30, 2020, cash flow from operating activities stood at CAD 8.6 million and CAD 65.9 million respectively, decreased 89% and 51% from the prior year comparative periods, primarily due to decreased petroleum and natural gas revenues as a result of lower realized pricing, higher interest and operating expenses, offset by higher realized gains on financial derivatives, lower royalties and transportation.

Capital expenditures for the three and six months ended June 30, 2020 were CAD20.8 million and CAD149.5 million, compared to CAD89.2 million and CAD185.8 million in the comparative periods of 2019.

The net earnings (loss) reported is significantly impacted by impairment expense and unrealized gains (losses) on financial derivatives recognized at each period end as a result of the market to market values or fair value of financial derivative contracts in place at each period end.

Stock Performance

At the closing (on August 18th, 2020), shares of NVA traded approximately 1.05% lower against the previous trading session at CAD 0.96. Over the last year, its shares have tested a 52W high price of CAD 3.36 on January 02, 2020 and a 52W low price of CAD 0.24 on March 18, 2020. At the last closing price, NVA shares have traded approximately 71.4% below its 52W high price level and traded approximately 300% above its 52W low price level; this reflects a sharp recovery in the stock price.

1-year Price Chart (as on August 18^th, 2020, after the market close). Source: Refinitiv (Thomson Reuters)

In the last five trading sessions, its shares have traded approximately 23.08% higher and outperformed the benchmark index by 22.12% and sector peers by 23.57% respectively. Further, its shares are up by 29.7% in the last one month and ~28% over the past three months respectively and outperformed the benchmark index and sector peers in the same time periods. However, its shares are featuring a negative price return of 70% and 41.5% on a YTD and YoY basis, respectively.

Top-10 Shareholders

The top 10 shareholders have been highlighted in the table, which together forms around 46.44% of the total shareholding. GMT Capital Corp. and Capital Research Global Investors holds the maximum interests in the company at 9.98% and 9.05%, respectively.  Further, it reflects that 4 out of top-10 shareholders have increased their stake in the company over the last three months, with British Columbia Investment Management Corp. and Poelzer (Ronald J) are among the top investors in the company which have increased their stakes by +0.94M million and +0.50 million, respectively. The institutional ownership in the NVA stood at 47.72%, and ownership of the strategic entities stood at 3.8% respectively.

Source: Refinitiv, Thomson Reuters

Valuation Methodology (Illustrative): EV/EBITDA based valuation metrics

*Note: All forecasted figures have been taken from the Refinitiv (Thomson Reuters)

Stock Recommendation

The onset of COVID-19 and the commodity price war of early 2020 have caused unprecedented reduction and volatility in demand and prices for WTI oil, condensate, and natural gas. The worldwide and North American industry response has included massive cuts to capital programs, leading to a significant destruction of future anticipated supply volumes. Worldwide production supply declines are expected to continue while demand recovers. Consequently, we expect a rise in oil prices, which is a key positive for the group.

The group is focusing on deleveraging its balance sheet. For the remaining six months of 2020, NuVista plans to incur minimal capital expenditures of approximately CAD 15 to CAD 25 million which is significantly less than company’s anticipated adjusted funds flow at strip pricing over the same time period. As a result, the group’s net debt is expected to decrease by approximately CAD 55-CAD 60 million in the second half of the year.

In light of the current low and volatile oil price environment, NuVista continues to significantly limit capital spending. The group is maintaining liquidity and balance sheet strength during these unprecedented times. Capital spending guidance for 2020 is unchanged, in the range of CAD 165 - CAD175 million, including CAD 15 - CAD25 million during the second half of 2020. Adjusted funds flow at current strip prices is expected in the range of CAD75 - CAD80 million for the second half of 2020, allowing free adjusted funds flow of CAD55 - CAD60 million to be directed towards the reduction of debt.

Further, its shares have traded well above the crucial short-term moving averages of 30-day and 50-day Simple Moving Averages (SMAs). Also, the difference between the fast-moving length of MACD- 12-day EMA and slow-moving length 26-day EMA positive, indicates an upside momentum in the stock, also the MACD oscillator featuring above 9-day EMA, another favourable indicator.

Therefore, based on the above rationale and considering the risks factors mentioned above, we have given a “Speculative Buy” recommendation at the closing price of CAD 0.96 (on August 18, 2020), with lower double-digit upside potential, based on the NTM Peer’s Average EV/EBITDA multiple of 5.85x on the FY20E EBITDA. We have considered Seven Generations Energy Ltd, Kelt Exploration Ltd and Tamarack Valley Energy Ltd etc., as a peer group for the comparison purpose.

*Recommendation is valid at August 19, 2020 price as well.

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