TXC TXCO --Raising Target Price to $24; Maintaining 2007 Volume Target - Part 1/2
PLEASE SEE END OF NOTE FOR IMPORTANT DISCLOSURES.
TXCO Resources Inc. Analyst: Raymond J. Deacon, CFA
(TXCO - NASDAQ) (303) 436-1113
August 3, 2007 Denver, Colorado
Raising Target Price to $24; Maintaining 2007 Volume Target of 9 Bcfe
TKR/ Price 52-wk EPS (FY-Dec) P/E MCap Target
RTG (8/2) Range 2006A 2007E 2008E 2007E 2008E (mn) Yld Price
------------------------------------------------------------------------------
TXCO / 9.92 15-9 0.21 0.01 0.50 nm 19.8 334 0.0% 24
Outperform
Event
2Q EPS reflect the inclusion of the Output purchase, which brought higher costs
per unit to the income statement. EPS were below our estimates (loss of $0.04
versus our estimated $0.12 profit) principally because of higher-than-expected
DD&A rates and LOE expenses. Absent any guidance, we are carrying the per-unit
costs forward for the remainder of the year. Our EBITDA estimate declines by
roughly 10% for this year although the 2008 estimate rises given higher
expected oil prices and slightly higher volume projections (assumes tar sands
production begins to ramp in December given announced plans to drill more than
a dozen wells by year-end).
Impact
Neutral. Given delay in first Pearsall horizontal well becoming a 4Q story.
Forecasts
2007 EBITDA declines 9% while 2008 EBITDA is increasing 21%, principally due to
an assumed increase in oil revenues to $102 million versus $79 million
previously. We maintain our 2007 and 2008 production forecast of 9.0 bcfe and
11.7 bcfe.
Valuation
Our new $24 a share target price reflects the NAV impact from a higher mid-
cycle price case (2009 and beyond) of $55/bbl for benchmark NYMEX pricing and
$7.50/Mmbtu for natural gas.
Recommendation
We rate the shares OUTPERFORM and believe they offer a highly attractive
risk/reward proposition.
Details & Analysis
Our thesis on TXCO remains that the proven reserves and the Glen Rose Porosity
inventory is worth somewhere between $9 and $10 a share and that investors gain
exposure to the San Miguel tarsands play, the Pearsall Shale play, and the
horizontal Glenrose shoal play on the Output properties essentially for free.
The following table shows our estimate for the value of the company's 300
locations in the Glenrose Porosity play, typical IRRs, and the NPV per well
assuming a $55/bbl oil price.
Exhibit 1: Glenrose Porosity Economics & Inventory
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Source: BMO Capital Markets Estimates and Company Reports.
Additional conference call and recent Boston/Chicago roadshow highlights:
" Schlumberger has been hired to do a reservoir study on the company's Glen
Rose Porosity play to determine oil in place, and recoverable reserves as well
as to suggest a secondary recovery program for the future. This may result in
play being classified as one reservoir and allow the company to book PUDs
(positive F&D impact). The company is working diligently on ways to lower the
reservoir pressure to allow the oil to escape from the porosity matrix.
" Deep Bossier. Peers are drilling wells in excess of 65 mmcfpd on the same
"shelf" of the Bossier as TXCO in the vicinity of the Fort Trinidad field. We
look for a well to be drilled in 2008.
" Tar Sands. We expected news on pricing of tar sands product from Corpus
Refinery at this point and it looks like that news is further away than we had
thought. By year end we hope to see commercial production from a pilot that may
consist of as many as 32 wells.
" Pearsall. Because of the completion technique equipment that will be
required it is likely two months until results from fracture stimulation are
known. Anadarko recently permitted its first horizontal well to test the
potential of the Eagleford and Pearsall shales in the Maverick basin, having
drilled five vertical wells. The lateral in the well extended 1,560' versus
2,500-4,000' planned lateral since Encana, the operator, had difficulties
handling pressures encountered. TXCO intends to drill its next well
underbalanced to avoid formation damage in, it hopes, to improve deliverability
from the well.
" 3-D defined Glenrose Shoals on Fort Trinidad field have significant
potential. The first of seven planned wells targeting the Glen Rose B is slated
for September. The Glen Rose C shoal had been the primary target given that it
had oil while the Glen Rose B was never targeted for development.
" Capex. We believe that in order to fund expected drilling in the San
Miguel tar sands play the cap-ex will go up.
Company Description
TXCO Resources is a small-cap ($365 million) independent oil and gas E&P
company. The company's core area is the Maverick Basin (85% average working
interest) in Southwest Texas, with more than 600,000 acres in the basin. TXCO
also has interests in the Marfa Basin in West Texas. The company reported year-
end 2006 reserves of 41.4 Bcfe, 48% of which are proved developed. On a pro
forma basis for the merger, the company has 81.4 bcfe, and production of
roughly 21.4 mmcfepd and net acreage of more than 723,000 acres. With the
acquisition now closed, the company has in excess of $90 million available for
development capital expenditures on its credit lines. The company also owns a
91-mile pipeline system in the Maverick basin with current capacity of 35
mmcfpd (33% utilized) with expansion potential to 100 mmcfpd.
Exhibit 1: TXCO Actuals and Estimates
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Source: BMO Capital Markets Estimates and Company Reports.
Exhibit 2: TXCO Summary Balance Sheet and Reserve Table
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Source: BMO Capital Markets Estimates and Company Reports.
Exhibit 3: TXCO NAV Model
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Source: BMO Capital Markets Estimates and Company Reports.
Important Disclosures
Analyst's Certification
I, Raymond J. Deacon, CFA, hereby certify that the views expressed in this
report accurately reflect my personal views about the subject securities or
issuers. I also certify that no part of my compensation was, is, or will be,
directly or indirectly, related to the specific recommendations or views
expressed in this report.
Analysts who prepared this report are compensated based upon (among other
factors) the overall profitability of BMO Capital Markets Corp, BMO Nesbitt
Burns, and their affiliates, which includes the overall profitability of
investment banking services. Compensation for research is based on
effectiveness in generating new ideas and convincing clients to act on them,
performance of recommendations, accuracy of earnings estimates, and service to
clients.
Company Specific Disclosure
BMO Capital Markets Corp. has provided advice for a fee with respect to this
company within the past 12 months: Yes
BMO Capital Markets Corp. has undertaken an underwriting liability with respect
to this company within the past 12 months: Yes
BMO Capital Markets Corp. has provided investment banking services with respect
to the company within the past 12 months: Yes
BMO Capital Markets Corp. or its affiliates owns 1% or more of any class of
common equity securities of the company: No
BMO Capital Markets Corp. or its affiliates makes a market in the security:
Yes
BMO Capital Markets Corp. or its affiliates managed or co-managed a public
offering of securities of the company in the past 12 months: No
BMO Capital Markets Corp. or its affiliates received compensation for
investment banking services from the company in the past 12 months: No
BMO Capital Markets Corp. or its affiliates or its officers own warrants or
options: No
Company is a client (or was a client) of BMO Capital Markets Corp. or an
affiliate within the past 12 months: Yes, for investment banking services
Employee, officer, or director of BMO Capital Markets Corp. is a member of the
Board of Directors or an advisor or officer of this company: No
A member of the Board of Directors of Bank of Montreal is also a member of the
Board of Directors or is an officer of this company: No
Analyst and/or associate who prepared this report is a member of the Board of
Directors of this company or an advisor or officer of this company: No
A household member of the research analyst and/or associate who prepared this
report is a member of the Board of Directors of this company or an advisor or
officer of this company: No
Analyst or associate who prepared this report or member of household of analyst
or associate owns shares: No
Analyst or associate who prepared this report or member of household of analyst
or associate owns warrants/options: No
BMO Capital Markets Corp. or its affiliates expects to receive or intends to
seek compensation for investment banking services from the company in the next
three months: No
Analyst received compensation from the company in the past year: No
BMO Capital Markets Corp. or its affiliates received compensation for products
or services other than Investment Banking Services from the company in the past
12 months: No
Methodology and Risks to Our Price Target
Methodology: Price target is based on our NAV, which assumes mid-cycle
commodity prices of $7/MMBtu and $50/Bbl.
Risks: Commodity prices, ability to create predictable growth from the Glen
Rose.
Breakdown of Rating Distribution and Banking Clients
(Continued in Part 2 ...)
Thomson Financial
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