Parex Resources Inc (TSX: PXT) engages in exploration, development, and production of crude oil. Majority of the company's properties are focused in Colombia, where it pays a royalty or tax to the government for its operations. Oil production is sold to a small basket of participants in South and North America. Majority of the group's revenue comes from the Crude Oil segment, while Natural gas contributes to a small portion.

Investment Rationale

• Best in Class Balance Sheet: The Company has a robust balance sheet and exceptional financial strength with a Cash position of US$ 334 million as on June 30th, 2020, with zero debt in the balance sheet. No debt in the balance sheet significantly reduces the balance sheet risks for the company. Also, Parex would continue to be responsive to changes in commodity prices by managing its production volumes, capital budget and cash costs, further protecting its balance sheet and shareholder value.

• Strong Liquidity: The Company exited Q2 2020 debt-free with a cash position of US$334.4 million, working capital of US$339.3 million and an undrawn credit facility of US$200 million. Including the company's working capital surplus, Parex has available liquidity exceeding US$500 million and expects to generate free funds flow over and above planned capital expenditures in 2020. The group would continue to be responsive to the volatility in oil prices by managing its production volumes, capital budget and cash expenditure, further shielding its balance sheet and shareholder value.

• Stabilizing oil prices to benefit the group: The widespread 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 due to COVID-19. These events have resulted in a volatile and challenging economic environment which has adversely affected PXT'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 USD43/bbl. Therefore, we believe that improved oil prices are expected to increase PXT's average oil realization prices in the near term.

• Relative Price Strength: Shares of PXT has recorded significant relative outperformance against its peer's group companies despite huge volatility in the commodity prices which had jolted almost every oil and gas company across the globe. The massive fall in the oil prices in April 2020, because of supply glut and plunge in oil demand globally in the wake of Coronavirus pandemic, this was a blood bath for oil stock investors and a massive fall in the oil stock all across the world and in Canada too. However, despite a free fall in the oil stocks, shares of PXT outperformed the sector competitor by ~18% on a YoY basis and by ~27% on a YTD basis. This shows a strong relative strength in the PXT shares against the sector peers. Also, its shares are hovering above the crucial short-term and long-term price support level of 50-day, 30-day and 200-day SMAs, which relatively reflects a positive price trend in the stock. Also, the MACD is rising, and the difference between 12-day and 26-day Exponential Moving Average is positive, which is another positive trend. 

• Risk Associated to Investment: Despite a sound balance sheet and strong liquidity position, the company highly exposed to the volatility in the crude oil prices and a glitch in oil demand would dampen the group's performance.

2QFY20 Result Highlights

Source: Company Filings

In the second quarter of the FY20, the group’s average production was 40,858 bbl/day, comprises of 39,664 bbl/d of crude oil and 7,164 mcf/day of conventional natural gas, which was 18% lower on a YoY basis, on account of voluntarily shutting in volumes in the low oil price environment in the second quarter.

The Company exited the quarter in debt-free position with a cash position of US$334.4 million, working capital of $339.3 million and an undrawn credit facility of $200 million. Including the Company’s working capital surplus, Parex has available liquidity exceeding $500 million.

PXT’s benchmark Brent price decreased by US$35.13/bbl, while revenue decreased by US$40.67/boe in the second quarter of 2020 as compared to the second quarter of 2019. The decrease in revenue relative to the Brent crude benchmark decrease is mainly a result of weaker Vasconia pricing and increased wellhead sales as compared to the comparative period. Royalties decreased by US$5.98/boe as a result of lower crude prices in the quarter. Production costs decreased by US$0.53/boe mainly as a result of the depreciation of the Colombian peso. During the quarter, transportation costs decreased by US$2.86/boe as a result of increased wellhead sales in the quarter.

Source: Company filings

On a sequential basis, revenue decreased by US$19.22/boe. The Company’s benchmark Brent price decreased by US$17.66/bbl. The decrease in revenue relative to the Brent crude benchmark decrease is mainly a result of weaker Vasconia pricing as compared to the comparative period. Royalties decreased by US$2.72/boe as a result of lower crude prices in the quarter. Production costs decreased by US$0.33/boe mainly as a result of the suspension of higher-cost fields offset by lower volumes absorbing fixed production costs. Transportation costs decreased by US$1.71/boe as a result of increased wellhead sales in the quarter. Overall, the operating netback decreased by US$14.46/boe vs a Brent benchmark crude decrease of US$17.66/bbl.

Source: Company filing.

The group recognized net income of US$19.3 million or US$0.14 per share compared to a net loss of US$3.8 million or US$0.03 per share in the last quarter ended March 31st, 2020 and net income of US$101.5 million or US$0.69 per share in the comparative quarter of 2019. The net income is primarily a result of a US$24.5 million recovery in deferred tax as a result of an 8% appreciation of the Colombian peso to US dollar exchange rate in Q2 2020.

Stock Performance

At the closing (on August 20, 2020), shares of PXT traded approximately 1.1% lower against the previous trading session at CAD 18.77. Over the last year, its shares have tested a 52W high price of CAD 25.11 on January 03, 2020 and a 52W low price of CAD 9.22 on March 18, 2020. At the last closing price, PXT shares have traded approximately 25.25% below its 52W high price level and traded approximately 103.58% above its 52W low price level, which reflects a sharp recovery in the stock price and stock is more tilted towards its 52W High price level. 

1-year Price Chart (as on August 20, 2020, after the market close). Source: Refinitiv (Thomson Reuters)

Also, at the last traded price of CAD 18.77, its shares traded above the long-term and short-term price level of 200-day, 50-day 30-day SMAs, and 20-day SMAs.

Over the last three months, its shares have bagged approximately 11% and surged approximately 15% in the last one month. However, the stock was featuring a negative price return of 22.2% and 9.76% on YTD and YoY basis, respectively.  

Top-10 Shareholders

The top 10 shareholders have been highlighted in the table, which together forms around 26.84% of the total shareholding. Fidelity Management & Research Company and The Vanguard Group, Inc hold the maximum interests in the Company at 6.88% and 5.28%, respectively.  Further, two  out of top ten shareholders have increased their stake in the Company over the last three months, with British Columbia Investment Management Corp and Mackenzie Financial Corporation are among the top investors in the Company which have increased their stakes by 0.37 million and 0.16 million, respectively. The institutional ownership in the PXT stood at 51.82%, and ownership of the strategic entities stood at 2.47% 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

Parex is in exceptional financial position in the industry as the Company continues to maintain a best-in-class balance sheet with liquidity exceeding $500 million. Further, the Company's financial performance has been significantly improved over the last fiscal quarter, with Recognized net income of US$19.3 million ($0.14 per share) compared to a net loss of $3.8 million ($0.03 per share) in the previous quarter.

Moreover, together with improves performance in the second quarter of FY20, the Company exited Q2 2020 debt-free with a cash position of US$334.4 million, working capital of US$339.3 million and an undrawn credit facility of US$200 million, which reflects zero debt balance sheet for the Company.

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.

Also, shares of PXT has recorded significant relative outperformance against its peer group companies despite huge volatility in the commodity prices, which had jolted almost every oil and gas company across the globe.

Therefore, based on the above rationale and valuation done using the above methodology, we have given a "Buy recommendation at the closing price of CAD 18.77 (as on August 20, 2020), with lower double-digit upside potential, based on the NTM Peer's Average EV/EBITDA multiple of 8.0x on the FY20E EBITDA. We have considered Gibson Energy Inc, ARC Resources Ltd and Crescent Point Energy Corp etc., as a peer group for the comparison purpose.

*Recommendation is valid at August 21, 2020 price as well.

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