Energy XXI: Buying Accretive Growth Whether the Market Likes It or Not

A couple of weeks ago, Energy XXI bought EPL Oil & Gas in an accretive deal that initially sent the stock down. The stock has recovered to pre-announcement levels, but the deal suggests a more premium pricing for the stock is due, instead of scraping along the bottom near three-year lows.

Energy XXI is a leading oil and natural gas production firm on the Gulf of Mexico shelf. The company has a history of growing via acquiring and exploiting the assets for increased production and reserves. The oil-heavy producer continues to expand reserves and significantly repurchase shares below net asset value, or NAV.

The stock appears to offer value to shareholders based on the market overlooking assets in the Gulf of Mexico. Freeport-McMoRan Copper & Gold bought struggling McMoRan Exploration last year due to huge perceived value and the potential for significant growth in production ignored by a market focusing on land shale plays.

Accretive EPL deal
Energy XXI has a history of buying large oilfield assets and improving the long-term results of the field. With the EPL deal, the company lists the numbers as immediately accretive to shareholders. The deal calls for EPL shareholders to receive roughly $39 per share. The aggregate consideration will be paid in roughly 65% cash and 35% in Energy XXI stock, equating to $1 billion in cash and approximately 23.4 million common shares.

EPL provides working interests in 37 producing fields, mainly concentrated within nine core operating areas. The company had year-end reserves of an estimated net proved and probable reserves of 106.3 million boe, 71% of which is oil. Proved reserves are estimated at 54.9 million barrels of oil and 139.2 Bcf of natural gas, or a total of 78.1 million boe.

Creating value  
Energy XXI estimates that it has acquired 146 million boe over the years and has converted those assets into 261 million boe (including production). In addition, the company forecasts the gross unrisked potential in core areas is equal to more than 2 billion boe. 

The below slide highlights the uplift from past purchases that Energy XXI expects to achieve with the EPL assets.

Source: EXXI investor presentation

The ability to buy assets on the cheap and increase reserves adds value to the PV-10. The proved reserve value equaled $6.1 billion at the end of 2013 with the market cap sitting around $1.8 billion. In fact, the PV-10 value has nearly doubled in the last two years, yet the stock price is down. The majority of the land producers sit at market valuations above the PV-10 values.

Energy XXI sees the stock as being so undervalued that it repurchased 9.4 million shares at levels above the current stock price. With an estimated NAV that deducts debt near $55, the company estimates that the share repurchases added $3.60 to NAV.

Bottom line
The history of making attractive acquisitions makes the recent move by Energy XXI appealing, especially considering the accretive nature of the deal and the weak stock action. Even more interesting is that EPL had rallied in the last couple of years and Energy XXI still made the deal work, suggesting that it offers extreme value trading at near three-year lows. With the continued high price of oil, a value creating company shouldn't be trading at these levels.