NAL Energy to Underperform in 2012?

NAL Energy NAE.TO 0.00 [N/A] slashed its dividend by 29% reducing it from an annual $0.84 to $0.60 per share and went into production maintenance mode by reducing its capex to $200M for 2012. Not surprisingly, NAL executed the scenario that I discussed back in December when I demonstrated the unsustainability of their dividend. The 2012 production guidance of 28,500 boe/d essentially turns NAL into an income play with no growth as their $200M capex program will simply maintain their current production and bump their oil weighting by a meagre 3% to finally balance liquids and dry gas on a 50/50 basis despite earmarking 85% of their capex to oil weighted drills. I believe the stock will most likely underperform in 2012 based on running 2 set of scenarios which indicate the company is not in its best shape. Let’s review some numbers together.

First, do not be fooled by the 35% payout ratio announced by the company, this is the basic payout ratio and what you need to look at is the sustainability ratio which takes into account the $200M in expenditures. The problem with NAL’s production is that at current natural gas prices 50% of production is almost useless while the other 50% in liquids has to do the heavy lifting by providing CF for paying distributions and funding developments. With gas prices averaging $2.70/mcf YTD, I can’t imagine NAL is enjoying healthy profit margins. Add our mild weather on top of it and there’s no hope gas will ever see an average of $3.00/mcf this year if our winter ends up with a thud.

Let’s take the lower range of their guidance with 28,500 boepd in average daily production and the announced capital expenditures program for 2012 of $200M  (figure I used last time as well). Using the following strip pricing for 2012 let’s compare the results:

NAL Strip Pricing

BTI Strip Pricing

·         Canadian Par $95.00/bbl

·         Liquids at $65/bbl

·         Natural Gas at $3.50/mcf


·         Canadian Par $90.00/bbl

·         Liquids at $65/bbl

·         Natural Gas at $3.00/mcf


I think NAL should have used a lower price on NG given the unlikeness of a recovery in the short term. With only 10-15% of its volumes hedged, I’d be happy if the company averages $3/mcf in 2012 if sub $3 gas prices persist throughout the year. Strong oil prices might balance things out as they are currently above $100 but we all know how quickly the price of oil can shift and in my opinion they should have budgeted for lower oil prices like $85 or $90 per barrel. I am assuming that the hedges will smooth the volatility and settle prices around $90 /bbl (67% of 2012 volumes are hedged). Chances are oil prices might end up higher in 2012 but I want to be somewhat conservative with my numbers.

Based on NAL’s scenario, the sustainability ratio comes out around 104% which is acceptable but not optimal as 2012 is loaded with many unknown variables. Of course, taking DRIP proceeds into account slightly improves the ratio but it is not a magical solution. Using my numbers, the sustainability ratio shoots up to around 110% which is as bad as in both scenarios the company will be paying more than they will be bringing in.

Both scenarios will result in a 0 growth company with rising debt  (don’t forget adding $80M in debentures on top of the LOC) unless they dispose of some non-core assets.  I believe this should be the next step by the company in order to increase their margin of manoeuver financially. The cut is definitely a step in the right direction but the balance sheet is delicate at this stage which makes me believe NAL’s stock will underperform its peers in 2012 as the market pays for growth and not for a combination of tread milling and rising debt.

What’s your opinion on NAL Energy?