Parex Resource (TSX: PXT) is a Canada-based upstream company. Its operational interest lies in crude oil exploration, development, and production in Colombia. Through foreign subsidiaries, the Company holds interests in onshore exploration and production blocks totaling approximately 2.7 million gross acres.

Revenue Mix

Businesses                                                          Geographic                                                                                                           

Investment Rationale

• Energy stocks are Set to Record Robust Performance in 2021, WTI up 34% YTD: Oil prices rose approximately 34% on a YTD basis as a stronger demand outlook, and signs of economic recovery in China and the United States offset rising COVID-19 infections in some other major economies. Given the improving outlook for the world's two biggest economies, there is little chance of the market's feel-good glow being extinguished any time soon. Helping the rally this week, the International Energy Agency and OPEC both made upward revisions to oil demand growth forecasts for 2021.

YTD WTI Crude Price Chart (as on May 13, 2021). Source: Refinitiv (Thomson Reuters)

• Scaling up Drilling in Colombia as Higher Oil Prices Boost the Profitability: The company is scaling up drilling in Colombia as higher oil prices boost the profitability of its Llanos and Magdalena Valley basin assets. Parex said it plans to drill four exploration prospects and three appraisal wells in 2021. The Calgary-based company has also earmarked six exploration targets for 2022 and five for 2023. This year's exploration program includes two prospects on the VIM-1 block and one each on the LLA-94 and LLA-32 blocks. Appraisal wells will seek to confirm commercial discoveries on the Boranda and Fortuna blocks. Meanwhile, infill drilling and waterflood expansion campaigns would be carried out on LLA-34, while up to eight producer and water injection wells are slated for the Cabrestero block. In addition, Parex expects to complete seismic surveys for the VIM-43 and VMM-46 licenses.

Source: Company Presentation

• Reported Industry Leading Margin Profile in the First Quarter of FY21: The company’s reported margin in the Q1FY20 was significantly higher compared to the industry median, which reflects the robust financial health of the company. Also, a significantly higher EBITDA margin and Operating margin implies a strong competitive advantage of the company over its peers.   

Source: Refinitiv (Thomson Reuters)

• Reported Solid Operating Net Back: The operating netback increased by USD 12.97/boe vs a Brent benchmark crude increase of USD 10.27/bbl. The Company’s benchmark Brent crude oil price increased by USD 10.27/bbl, while revenue increased by USD 14.33/boe in the first quarter of 2021 as compared to the first quarter of 2020. The increase in revenue relative to the Brent crude benchmark increase is mainly the result of stronger Vasconia crude oil pricing (and thereby a lower differential to Brent oil price) and decreased wellhead oil sales in the quarter as compared to the comparative period.

Source: Company Filing

• No Balance Sheet Risk: Parex financial risk profile continued to remain strong, with a healthy expected net worth in fiscal 2021, with zero debt in the balance sheet at the end of the Q1FY21, and robust debt protection metrices. Going forward, debt is likely to remain zero as it has substantial reserves to fund its future growth and expansion through internal accruals.

• Outlook- Stable: Higher Brent oil prices to date in 2021 and Parex's unhedged oil price exposure are expected to contribute to a significant increase to Parex's 2021 FFO. With higher FFO, an increasing cash position and a debt-free balance sheet, Parex is strategically accelerating the assessment of its portfolio of operating assets through increasing exploration and appraisal activity to provide for a strengthened future development inventory. Also, the financial risk profile is likely to remain robust in the mid-term.
• Risk Associated to Investment: The Company is significantly exposed to the volatility in the oil prices, which can have a significant impact on the group's financials and profitability. Further, The Company's main exposure to foreign currency risk relates to the pricing of foreign currency-denominated in Canadian dollars and Colombian pesos, as the Company's functional currency is the US dollar. The Company has exposure in Colombia and Canada on costs, such as capital expenditures, local wages, royalties, and income taxes, all of which may be denominated in local currencies.

Financial Highlights: Q1FY21

Source: Company Filing

• Net revenue for the three months ended improved 14.6% to USD 196.48 million against CAD 193.61 million reported in the same period of the previous financial year, driven by significant improvement in the oil and natural gas prices.
• Overall, the Company's benchmark Brent crude oil price increased by USD 10.27/bbl, while revenue increased by USD 14.33/boe in the first quarter of 2021 as compared to the first quarter of 2020. The increase in revenue relative to the Brent crude benchmark increase is mainly the result of stronger Vasconia crude oil pricing (and thereby a lower differential to Brent oil price) and decreased wellhead oil sales in the quarter as compared to the comparative period.
• Royalties increased by USD 1.42/boe as a result of higher crude oil benchmark prices in the quarter.
• Production costs increased by USD 0.55/boe mainly as a result of increased well workovers in the current quarter on Block LLA-34 and also bringing back production on legacy fields where production costs are higher on a per bbl basis.
• Transportation costs decreased USD 0.61/boe mainly as a result of a change in sales mix as a higher percentage of crude was transported and exported in the prior period vs. sold at the wellhead. Also, the tie-in of additional Block LLA-34 volumes to the Oleoductos de Los Llanos ("ODL") pipeline, which carries a lower tariff than the cost of truck transport for this particular volume of crude, has reduced transportation costs.
• Oil and natural gas sales in the first quarter of 2021 were 46,727 boe/d compared to 55,310 boe/d for the first quarter of 2020. The decrease in oil sales was a result of the decrease in oil production and purchased oil purchases/sales over the comparative period.
• Fund flow from operations surged by 28.4% to USD 124.96 million as compared to USD 97.31 million in the same period of the corresponding financial year.
• Free Fund flow nudged by 227.8% to USD 85.377 million against USD 26.047 million reported in the first quarter of the previous financial year.
• As of March 31, 2021, the Company had a working capital surplus of USD 341.7 million, excluding funds available under the credit facility, as compared to the working capital surplus on December 31, 2020, of USD 320.2 million. Bank debt was nil as of March 31, 2021.

Share Price Performance

At the last traded price, PXT shares traded 3.44% lower at CAD 20.18 (May 13, 2021). In a year over period, PXT shares are up by 43.4% and outperforming the benchmark TSX index by approximately 13%. The stocks added ~16% on a YTD basis and outperformed the benchmark index by ~5%, which implies strong relative strength against the broader market.

Also, PXT shares traded above the long-term support level of 200-day SMA; however, traded below its crucial short-term support level of 20-day, 30-day, and 50-day SMAs.  

Technical Price Chart (as on May 13, 2021). Source: Refinitiv (Thomson Reuters)

Top-10 Shareholders

Top-10 shareholders in the company held around 24% stake in the company. Fidelity Management & Research Company LLC, and Wellington Management Company, LLP are among the largest shareholder in the company and carrying an outstanding position 6.95% and 2.06% respectively. The institutional ownership in “PXT” stood at 50.85%, and ownership of the strategic entities stood at 2.64% respectively.

Source: Refinitiv (Thomson Reuters)

Valuation Methodology (Illustrative): EV to Sales based Valuation Metrics

Note: Premium (discount) is based on our assessment of the company’s growth drivers, economic moat, competitive advantage, stock’s current and historical multiple against peer group average/median and investment risks.

Stock Recommendation: PXT has a long track record of shareholder rewards and generating strong cash flow. Moreover, the company has a debt-free balance sheet, which implies no balance sheet risk for the company. More importantly, the group has maintained a positive spread between Return on Capital Employed and Weighted Average Cost of Capital, which implies that the company is generating higher free cash flow for its shareholder and reflects its ability to fund the growth through internal cash flow.

Further, the company has a strong competitive advantage against the industry peers, given the industry-leading margin profile. Moreover, Parex is expected to achieve healthy revenue growth over the medium term on the back of higher commodity prices, an improving business risk profile, and higher crude realization prices. Also, the financial risk profile is likely to remain robust in the mid to long term.

Further, higher Brent oil prices to date in 2021 and Parex's unhedged oil price exposure are expected to contribute to a significant increase to Parex' 2021 FFO. With higher FFO, an increasing cash position and a debt-free balance sheet, Parex is strategically accelerating the assessment of its portfolio of operating assets through increasing exploration and appraisal activity to provide for a strengthened future development inventory.

Therefore, based on the above rationale and valuation done, we recommend a "Buy" rating on the stock at the closing price of CAD 20.18 on May 13, 2021.

*Recommendation is valid at May 14, 2021 price as well.

Disclaimer

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