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Whitecap Resources: explosive growth strategy and capital discipline pay off

With an aggressive acquisition strategy underway over the past few years and a sharp focus on per share performance, Whitecap Resources (TSE:WCP) has managed to stay ahead of its peers, with its shares rising more than 30 per cent year-to-date. This compares to a 3.08 per cent gain for the S&P/TSX Composite Index, of which the energy sector takes up approximately a quarter. 
Whitecap Resources: explosive growth strategy and capital discipline pay off

With an aggressive acquisition strategy underway over the past few years and a sharp focus on per share performance, Whitecap Resources (TSE:WCP) has managed to stay ahead of its peers, with its shares rising more than 30 per cent year-to-date. This compares to a 3.08 per cent gain for the S&P/TSX Composite Index, of which the energy sector takes up approximately a quarter. 

Since inception in September 2009, when the Calgary-based oil and gas producer started as a private entity, it has aggregated a light oil resource base with over 1.7 billion barrels of discovered petroleum initially in place (DPIIP). 

The Alberta and Saskatchewan-focused company had humble beginnings with 850 net barrels per day of production, acquired from a major in Calgary in a $116 million transaction that brought in Barrick Energy as a 50% partner, says president and CEO Grant B. Fagerheim. Since then, this figure has grown substantially through organic drilling growth and through various "tuck-in" acquisitions aimed at increasing the recoverable resource, with forecast 2013 production targeted at 19,200 barrels of oil equivalent per day (boe/d) - a 37 per cent increase from 2012. 

The acquisition spree, including a recent purchase of west-central Saskatchewan-focused Invicta Energy for $60 million, has certainly paid off. Whitecap, which went public in June 2010 through a reverse takeover with Spitfire Energy, began a dividend-paying strategy at the start of 2013, and increased its dividend payment by three cents to 63 cents this year following its most recent deal. 

"The key to business in the energy sector is how effectively you can redeploy cash flow, with the three components we see being decline, capital efficiencies, and what funds you have for reinvestment," says Fagerheim, adding that Whitecap is focused on growing without putting up "a bunch of equity and not running up a lot of debt", leaving it with a strong cash flow base to reinvest effectively. 

It finished the second quarter with a cash flow netback of $40.30 per boe, and has estimated 2013 proven and probable, or 2P, reserves of 110.6 million boe, and a strong inventory of opportunity consisting of 1,333 wells, up from around 800 at the end of 2012. It is forecasting a cash flow netback of $39.70 per boe for this year, with the estimates based on a conservative oil price of C$92.00 a barrel - well below current spot prices. Fagerheim calculates that every dollar change in oil price for the second half of 2013 alone means $760,000 for the company, and a “lot more cash flow coming back into us for debt repayment or capital reinvestment”. 

"It's all about our people," says the chief executive when describing the core of the company's success. "We have motivated people that are looking to extract the highest value possible from our assets."

Indeed, all of Whitecap's employees are shareholders, part of the company's strategy, meaning they all have a vested interest in ensuring the oil and gas producer's performance. 

"We're focused on per share results - cash flow, production, reserve and net asset value per share growth. We're not growing for the sake of it," he affirms. 

Fagerheim says the company has executed, acquiring assets with limited recovery to date, making sure to extract cost effectively and "monetize at the highest level". Whitecap's overall objective is for an over 10 per cent total shareholder return on an annual basis. 

"If we can generate now 5% share growth in production and cash flow, together with our dividend that gives an 11 – 12% return on an annual basis. We believe we can continue to meet or beat these numbers going forward within the confines of our balance sheet." 

If production growth is any indication, the company is certainly on path for such shareholder returns. In an analyst note written in early August, shortly after the release of Whitecap's second quarter results, analyst Jim Byrne wrote: We believe the company has built a strong operational track record that may allow the company to raise guidance or increase the dividend later this year."

In its first full year as a public company in 2010, the company had production of 1,400 boe per day, or 61 boe per million shares, jumping to 14,000 boe per day, or 122 boe per million shares in 2012. Next year, it is forecasting 22,000 boe/d, or 135 boe/d per million shares. 

"Our absolute growth was explosive in the first few years, and it has slowed down as we moved towards a dividend paying company," says the chief executive. "Our per share numbers are what people should focus on with 3 – 5% per share production growth this year and 7% projected in 2014."

The company has a Montney oil waterflood play at Valhalla North in Alberta -- its anchor asset -- as well as two Cardium plays in west central Alberta, alongside the Lucky Hill/Dodsland Viking oil play in west central Saskatchewan and the Jurassic Fosterton asset in southwest Saskatchewan. 

"Each one of these areas generates more cash flow than capital we're spending," says Fagerheim. At its Garrington cardium play in Alberta, for example, it is generating $89 million of cash, with $55 million of capital spent, giving the company a free cash flow of some $34 million. 

"If oil stays as strong as where it is now, our cash flow estimate for this year is in excess of $280 million, with a projected free cash flow in excess of $10 million," he adds. 

And the company has a high level of certainty of achieving its forecasted production volumes. This is based on key characteristics, including an aerially consistent reservoir, a large resource in place, analogous low decline “legacy” vertical well developments and no formation water. 

Whitecap, which is anticipating entering 2014 with a decline of under 25 per cent, bought out its partner Barrick Energy’s interest in Valhalla Montney in July, and since then, Fagerheim says the zone has been “explosive” for the company. 

“We started [at Valhalla] with 850 barrels per day of production, and now we’re up over 4,500 barrels per day, from just one zone. When we bought the asset, there were 46 producers and 5 injectors, and now there are 65 producers and 17 injectors,” boasts the chief, who says the company has grown the asset over 350 per cent since acquisition, with full development anticipated sometime in late 2015. Expansion of the Montney oil waterflood is also underway, with the first phase already completed. 

“There is about $300 million of income yet to be extracted as we move through this asset.”

All eyes are also on two of its Garrington Cardium wells, which in June averaged a “very impressive” 485 boe/d, according to analysts at Canaccord Genuity. The company is drilling 25 horizontal wells there this year. 

Aside from its properties and strong inventory, the company counts its hedging as a key to its success, and as a way to “mitigate the volatility” and offer predictability in its cash flow figures, with over 85 per cent of its oil sold at a price of C$97.46 in the second half of the year. “Shareholders can be well assured we’ll be giving a strong dividend,” says Fagerheim. 

With the company running at 1.3 times debt to cash flow right now and a total payout ratio of 97 per cent targeted this year, the CEO assures that Whitecap will remain disciplined on its approach of capital risk management through debt and hedging, and on a focus of total shareholder return on a long-term basis, with a monthly dividend it believes it can grow over time. 

“We don’t want to disappoint the market. We put out numbers that we can feel comfortable with, and can meet or beat on a continual basis.”

Whitecap, whose shareholder base consists of over 75 per cent institutional investors -- with the likes of Front Street Capital and Great West Lifeco – sees more acquisitions in the long term, but is in no hurry, as its prior purchases have yet to “properly digest”. The company has a $520 million credit line, which the CEO anticipates will be uplifted due to transactions.  

Fagerheim, who has over 30 years experience in the oil and gas business having previously been the CEO of Cadence Energy, has the utmost conviction in Whitecap’s forecasts. “I should be able to tell shareholders how they’ll get a 20% return. If you don’t believe me, you shouldn’t invest, and I’m okay with that.”

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