QUOTE AND NEWS
Forbes  Jan 12  Comment 
The worst performing sector as of midday Thursday is the Energy sector, showing a 0.6% loss. Within that group, Hess Corp (NYSE: HES) and Cimarex Energy Co (NYSE: XEC) are two large stocks that are lagging, showing a loss of 5.2% and 2.3%,...
Forbes  Jan 5  Comment 
In afternoon trading on Thursday, Energy stocks are the best performing sector, higher by 0.3%. Within that group, Devon Energy Corp. (NYSE: DVN) and Cimarex Energy Co (NYSE: XEC) are two large stocks leading the way, showing a gain of 3.2% and...




 
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Cimarex Energy Co. (NYSE: XEC) is one of many independent oil and natural gas producers in North America. XEC's holdings are primarily in the Mid-Continent, Texas and Gulf Of Mexico regions. The company's strategy is to invest in low risk high yield oil and gas producing properties, investing less capital on exploration and more in drilling new wells in existing reserves. Thus XEC is focused on improving return on invested capital in the long-term rather than looking for the quick boosts to reserves that many of its competitors seek.

As of 2006, natural gas accounted for 75% of Cimarex's total proven reserves, with the remainder of reserves consisting of oil and natural gas liquids.[1] In 2005 Cimarex strengthened its drilling presence in the Permian Basin, an oil-rich region of Texas, with the acquisition of the Dallas based oil and gas company, Magnum Hunter Resources Inc. This key acquisition also enhanced the company's Mid-Continent holdings in the Texas Panhandle.[2] The acquisition of Magnum Hunter effectively tripled Cimarex's proven reserves, doubled production and more than doubled the company's revenue from $475.16 million in 2004 to $1.12 billion dollars at the end 2005.[3]

Though the acquisition of Magnum Hunter proved profitable for Cimarex's onshore Permian Basin and Mid-Continent properties, the acquisition couldn't have come at a worse time for the company's Gulf of Mexico operations due to hurricanes Katrina and Rita. The hurricanes hit only a few months after the deal closed, leaving Cimarex with the burden of damage expenses as well as significant production loses. In an attempt to cut its loses Cimarex tried to sell the GOM properties in 2006 without success and has since elected to limit development in the region. As of right now two-thirds of Cimarex's operating budget goes to its low risk program in the Mid-Continent and one third to high risk programs in the Gulf of Mexico.


Company Overview

Cimarex has an aggressive drilling strategy that exposes the company to expensive operating costs. The company targets conventional resource basins and invests large amounts of capital into exploiting and developing mature oil and gas deposits. In an attempt to minimize risk and mitigate expenses, Cimarex invests two thirds of its annual budget in lower-cost moderate-risk drilling activities in the Mid-Continent and Permian Basin and about one third of its budget into precarious yet potentially high-return exploratory drilling in the Gulf Coast region. The company’s focus is continual drilling in existing basins, and it prefers not to rely solely on acquisitions.

[4]

At the end of 2006, 90 percent of proved reserves were located in the Mid-Continent, Permian Basin, Gulf Coast and Gulf of Mexico regions. The following table illustrates Cimarex's proved oil and gas reserves by region.[5]

[6]

Gross Productive Wells

In addition to the unfavorable outcomes of the 2005 hurricanes, in 2006 Cimarex encountered several unsuccessful drilling programs in the GOM and Gulf Coast regions. Cimarex drilled several wells that proved to be "dry holes", thus leading the company to have skeptical expectations for future drilling opportunities. Failure to successfully drill in these regions has reinforced Cimarex's strategy to avoid investing excessive capital into high-risk areas.

The chart below illustrates Cimarex's asset-base measured by oil and gas production by region. Currently, the Mid-continent and Permian Basin regions are the company's most prolific.

[7]

Trends and Forces

  • Cimarex Avoids Exploring for New Unproved Properties- The increasingly risky prospect of exploring for new resource basins has kept Cimarex away from costly exploration activity. The company avoids risky investments to keep costs low, especially important because it has already run into unsuccessful operations in the wake of hurricanes in the Gulf Coast region. Because of this strategy Cimarex is unlikely to emerage as a major E&P company but hopes to offset its lack of E&P activity through successful development of the newly acquired Magnum Hunter properties.
  • High Gas and Oil Prices Have Helped Keep Cimarex's Profits Up- High commodity prices have enabled Cimarex to enjoy substantial revenue growth since the oil and natural gas boom between 2003 and 2004. Unlike most companies in the industry focused on exploration activity, the dramatic increase in gas and oil prices stimulated Cimarex to invest in drilling activities rather than exploration. Because drilling for oil and gas becomes much more profitable when prices are on the rise, the company faces stiffer competition for the acquisition of land or mineral rights to oil- and gas-rich properties. The rise in market value of "proven" properties' is more or less in direct proportion to the rise in the value of the commodities under them, which cuts into the company's possible return on investment.
    • OPEC's Role- Although oil makes up only 25% of production Cimarex still benefits from OPEC's influence on oil prices. Artificially high oil and gas prices are important to Cimarex's profitability because natural resources are commodity goods, making their markets subject to volatile price cycles and harsh price competition. With artificially low production, prices remain volatile but also high, thus creating larger profit margins for all oil and gas companies.
  • Cimarex's Focus on Natural Gas- Approximately 75% of the company's proved reserves are natural gas while only 25% account for crude oil and natural gas liquids. Unfortunately, the price of natural gas has not seen the same recent rapid increases as oil. Thus, the company hasn't experienced the same acceleration of revenue and operating profit as more oil-focused competitors.
  • The Emerging Technology in Hybrid and Alternative Energy Sources Could Threaten the Long-term Stability of the Oil Business- Rising oil prices have led both consumers and companies to seek out alternative sources of energy and invest in renewable energy such as nuclear, solar, wind, biofuels, and ethanol. As the global consumer demand shifts toward renewable energy sources due to recent environmental concerns over climate change, this change in consumer consciousness may adversely affect the oil and gas industry. With the advent of hybrid and fuel cell vehicles and the cost of gasoline becoming dangerously close to $4 per gallon, consumers have become less inclined to purchase gas guzzling SUV’s opposed to more fuel-efficient cars. As a result oil and gas companies stand to lose if the industry encounters a sudden decrease in demand.

Competition

Cimarex operates in a highly competitive environment in which all firms are price-takers, selling their oil and gas production at given market prices. Firms generally compete on their ability to drill efficiently and earn high returns on investment through intelligent property acquisition and by keeping operation costs to a minimum. Cimarex's biggest cause for concern at this point is its lack of interest in exploration activities. Although the company competes for the acquisition of proven oil and gas properties, little investment in exploring for new resources basins could have substantial impact on Cimarex because the company's existing basins will not last forever. However, Cimarex encounters less geopolitical risk than some of its competitors operating abroad because the company has eschewed expanding operations to the international level. It also enjoys high returns on invested capital, as it focuses on boosting production and drilling into new sources in its existing properties.

Below is a table comparing several independent oil & gas companies across several metrics.

Proved Reserves Square Footage
Revenue TTM ($M)Operating MarginProduction (MMcfe/Day)[8]Oil (MMBbls)Natural Gas (Bcf)LNG (MMBbls)Gross developed acreage (in thou)Gross undeveloped acreageGross Total
FST93433.2%31080.377811276684169182
DNR811.0439.9%220126288224471695
EOG376048.5%156111860953777827912056
KWK514.2142.8%1676.312414893616102546
NBL289040.2%4082963231193410,29512229
NFX181027.3%6641141586159360067599
PXD171018.9%1617292741618741659218466
PXP102026.9%1009333111149587.5736.5
RRC868.3538.0%27653.7143653.7145817563214
SM86238.4%25474.2482.599212912283
STR270030.1%35528.4146128.4240118254226
SWN107029.1%1987.997952016082128
XEC129033.1%44959.8109059.8194544456390
XTO512059.4%1527214.469405331828083990
[9]





Footnotes

  1. XEC 2006 Annual 10-k Report, "Business" pg.5
  2. XEC 2006 Annual 10-k Report, "Business" pg.5
  3. XEC 2006 Annual 10-k Report, "Business" pg.5
  4. Google Finance
  5. XEC Annual 10-k Report, "Properties" pg.16
  6. XEC 2006 Annual 10-k Report, "Properties" pg.16
  7. XEC 2006 Annual 10-k Report, "Legal Proceedings" pg.19
  8. MMcfe/day, or millions of natural gas cubic feet equivalent, is a measure of the level of production per day that converts oil into the energy-yielding natural gas equivalent using a ratio of 6 to 1 (natural gas to oil)
  9. All Data Compiled from 2006 Annual 10-k Reports


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