Hess’s track record for efficiently allocating capital and generating value has been steadily improving for several years

Business Strategy & Outlook

Hess’ track record for efficiently allocating capital and generating value has been steadily improving for several years. This had been a source of frustration for shareholders in the past. Before 2012, the firm was struggling with persistent budget overruns and costly exploration failures, and the eventual collapse in its share price led to a heated proxy fight with an activist investor (which it lost). Subsequently, the board was reshuffled and management began streamlining the company, selling midstream and downstream assets and rationalizing its upstream portfolio. The current portfolio is substantially more competitive, but the development cost requirements are heavily front-loaded. Currently, Hess is one of the largest producers in the Bakken Shale. This includes a large portion in the highly productive area near the Mountrail-McKenzie county line in North Dakota. Management believes this acreage still contains at least 2,000 incremental drilling opportunities and hopes to develop this asset with a four-rig program in the long run (giving it well over 10 years of potential drilling inventory). Four rigs would optimize the usage of its infrastructure and keep production flat at around 200 mboe/d. But in 2022, the firm is allocating capital stringently and is only planning for three rigs.

Hess also holds a 30% stake in the Exxon-operated Stabroek block in Guyana, which will be the firm’s core growth engine going forward and is a game-changer for the company, due to its large scale and exceptional economics. Current guidance indicates 6 development phases will come online by 2027, culminating in gross volumes of about 1.2 mmb/d. But with over 20 confirmed discoveries already, this feels conservative. Four developments have been sanctioned to date, and two of them are already producing. Management has hinted at 10 phases in the ultimate development. Total gross recoverable resources in the region are a moving target, but the latest estimate is over 11 billion barrels of oil equivalent.

Financial Strengths

Hess’ Guyana assets are capital-intensive (it must pay 30% of the development costs, which run to $1 billion-$2 billion for each sanctioned phase of development; a total of six are currently planned and more than that are likely eventually). And these commitments are heavily front-loaded. As a result, capital spending has significantly exceeded cash flows in the last few years. However, the firm has made the best of very strong commodity prices recently, while enjoying peer-leading revenue growth due to its ongoing expansion in Guyana. As a result, the firm’s leverage ratios are close to historical norms, and are likely to decline further given that all of Hess’ assets are now generating net cash flows. At the end of the last reporting period, debt/capital was 50%, while net debt/EBITDA was 0.9 times. In any case, the firm’s liquidity backstop is very strong. The firm has a $2.2 billion cash war chest, and there is more than $3 billion available on its credit facility as well. In addition, the term structure of the firm’s debt is fairly well spread out, and there are no maturities before 2024 (other than a $500 million term loan due 2023 and likely to be paid in full with operating cash flows by the end of 2022). The firm does have a covenant requiring it to keep debt/capital above 0.65, though it isn’t expected to get close to that level even in a downturn scenario, because in the associated debt agreement capital is defined to exclude impairments.

Bulls Say

The Stabroek block (Guyana), in which Hess has a 30% stake, is a huge resource, with at least 10 billion barrels of oil equivalent recoverable.
The first phase of the Liza development is profitable at around $30/bbl (Brent), making it competitive with the best shale. Management expects similar economics from subsequent projects in Guyana.
Hess’ activity in Guyana provides geographic diversification and insulates it from domestic issues (like anti fracking regulations).

Company Description

Hess is an independent oil and gas producer with key assets in the Bakken Shale, Guyana, the Gulf of Mexico, and Southeast Asia. At the end of 2021, the company reported net proved reserves of 1.3 billion barrels of oil equivalent. Net production averaged 315 thousand barrels of oil equivalent per day in 2021, at a ratio of 69% oil and natural gas liquids and 31% natural gas.

(Source: Morningstar)

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