EOG: 'Unconventional' favorite

by Peter Staas, contributing editor The Energy Strategist

Over the past few years, buffeted by ultra-depressed natural gas prices, US-based exploration and production outfit have scaled back spending while boosting output of oil and natural gas liquids (NGL).

EOG Resources (EOG) was among the first E&Ps to begin this transition, securing territory in key US unconventional oil fields roughly four years ago. This foresight should pay off and the stock is one of our favorite bets on a recovery in oil prices.

The company has amassed substantial acreage in the most prospective areas of four major shale oil plays: the Eagle Ford, the Bakken Shale, the Barnett Combo, and the Wolfcamp and Leonard Shale plays in the Permian Basin.

The rapidity with which management implemented this new strategy is staggering. In 2007 natural gas accounted for 77 percent of EOG’s revenue; in 2010 the firm garnered more than 42.5 percent of its revenue from liquids output, roughly three quarters of which was from oil.

Last year, EOG Resources’ oil production surged by 53 percent and liquids output accounted for more than 50 percent of sales.

These trends continued into the first quarter of 2012, with oil and condensate output contributing about 50.5 percent of the firm’s total revenue, up from 40.1 percent in the first three months of 2011.

Management expects to allocate about 90 percent of the firm’s 2012 capital budget to drilling activity in oil-rich formations. Much of this activity will occur in the Eagle Ford, as the company works to hold its acreage by production.

In addition to EOG Resources’ oil-weighed production profile, the company’s first-mover status in the Eagle Ford Shale and other plays – as well as the quality of its acreage reduces – its cost base and boosts internal rates of return. Operational excellence also continues to lower EOG Resources’ cost of production.

Investors looking for upcoming catalysts for the stock should monitor the company’s enhanced oil recovery efforts in the Bakken Shale and the Eagle Ford Shale.

EOG Resources hedges only a quarter of its oil output, leaving the firm exposed to price fluctuations. Although the recent pullback in energy prices will weigh on the firm’s second-quarter results, oil prices appear to have bottomed and we remain bullish on the company’s long-term growth prospects.

Critics often point to EOG Resources’ lack of major discoveries over the past few years. However, investors would be foolhardy to overlook the firm’s significant growth potential in its existing leasehold, a position that the company has the financial wherewithal to exploit without dilutive joint ventures.

One of the best-run independent exploration and production outfits in North America, EOG Resources boasts an enviable production mix and continues to execute. EOG Resources rates a buy up to $125 and is an absolute bargain when the stock trades for less than $90 per unit.

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