On Monday, Ultra Petroleum announced the acquisition
of an oil asset play in the Uinta Basin located in northeast Utah for $650 million. The initial details and return figures of the acquisition sound great, almost too good to be true. Ultra hasn't disclosed the buyer, but I'm sure that will come out as the details flow through SEC filings, but why would the other party sell at these levels of returns? I'm admittedly an oil and gas industry novice, but the quoted returns at 60+% IRRs are great, right?
The acquisition also seems designed as a way for Ultra to ride out the low natural gas environment by focusing their efforts on this oil play that is cash flow positive in year one and has a paid back period of approximately five years. Using 2014 production estimates, Ultra will now be a 90% natural gas and 10% oil, versus about a 97% and 3% split currently, which slightly impacts my natural gas macro thesis (and might cause some slight investor churn). The oil acreage does come at a significant cost, Ultra is financing the entire $650 million through a combination of their credit facility and additional senior notes. This will increase the debt load by 35% for an already leveraged company but given the quick payback nature of the acquisition, may still be a reasonable level, just limits their flexibility in the near term.
New Valuation: EV/EBITDA
2014E EBITDA = $915MM ($755MM previously disclosed estimate using $4 gas prices and $160MM from Uinta acquisition)
Net Debt = $2.49B (2014 $1.84B previous target, plus $650MM acquisition price)
Current Market Cap = $3.07B
EV/EBITDA = 6.07x
It still appears to me that Ultra Petroleum is an undervalued business, but I'm also beginning to fully understand my limitations as an investor and evaluating oil and gas exploration companies might not be in my circle of competence. The market didn't like the acquisition, the price popped after the initial news but has declined well below the pre-news level since, but I'm going to be patient here and see if management can meet their lofty return goals.
Disclosure: I own shares of UPL
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