Down Debt

Laredo Petroleum Stock: Significant upside potential as it pays down debt (NYSE:LPI)

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Laredo Oil (NYSE: LPI) appears capable of generating approximately $365 million in positive cash flow in 2022 at current strip prices, although it is expected to generate nearly $600 million in hedging losses. At the current strip for 2023, it may be to be able to generate over $600 million in positive cash flow, helped by less hedging.

This would allow Laredo to redeem its 2025 and 2028 high-interest notes, saving it $91 million a year in interest costs. In a long-term $70 WTI oil environment (post 2022), I estimate Laredo’s value to be around $82-$99 per share.

2022 outlook at current band

The current band for 2022 has improved to around $100 WTI oil and $7 Henry Hub gas. At these prices, Laredo is expected to generate $2.053 billion in oil and gas revenue before hedges.

Laredo is significantly hedged for 2022, however, and his hedges this year have an estimated negative value of $590 million at the current band. It has hedged approximately 73% of its oil production, 46% of its NGL production and 68% of its natural gas production.

The Laredo Hedges

The Laredo Hedges (laredopetro.com)

Laredo has relatively limited hedges for 2023 currently at 27% of oil production (based on 2022 levels) and 8% of natural gas production.

Barrels/Mcf $ per barrel/Mcf (realized) millions of dollars
Oil 14,965,000 $100.00 $1,497
NGL 7,690,550

$36.00

$277
Natural gas 48,026,700 $5.80 $279
Coverage value -$590
Total revenue $1,463

Laredo is now expected to generate $365 million in cash flow positive at current strip prices based on its forecast. Laredo factored 15% inflation (compared to Q4 2021 levels) into its initial capital spending budget. He also mentioned that he had locked in most of his service costs for the first half of 2022. However, he now expects further 5% inflation for capital spending given the current environment. Additionally, Laredo’s rental operating costs are expected to be approximately $5.35 per boe now, compared to earlier expectations of $4.25 per boe.

millions of dollars
Rental operating expenses $164
Taxes on production and ad valorem $144
Marketing and transportation $58
G&A in cash $60
interest $122
Capital expenditure $550
Total expenses $1,098

Debt and valuation

Laredo ended 2021 with $1.387 billion in net debt and is expected to end 2022 with nearly $1 billion in net debt (about $1.022 billion in net debt in the cost inflation scenario). This would represent approximately 1.0x EBITDAX 2022 (including the effect of its hedges).

With net debt of $1.022 billion, Laredo’s estimated value sits at around $99 per share in a long-term scenario (after 2022) of WTI oil at $70 and NYMEX gas at $3.50. This assumes a multiple of 2.8 EV over the unhedged EBITDAX.

A 2.5x EV multiple to unhedged EBITDAX would still translate to an estimated value of nearly $82 per share for Laredo at these oil and gas prices.

I give Laredo a relatively low valuation multiple because it has a relatively modest amount (approximately 8 years at its 2022 completion rate) of oil-heavy inventory left, albeit in the right commodity price environment , its inherited acreage could add several more years of inventory.

Laredo inventory

Laredo inventory (laredopetro.com)

Ticket refunds

By the end of 2022, Laredo should have repaid its credit facility debt and should have $317 million in cash. This should allow him to consider repaying some of his high-interest debt. Laredo’s $578 million in 9.5% unsecured notes due 2025 can be redeemed at a price of 102.375% of par plus accrued and unpaid interest after Jan. 15, 2023.

Refund of Laredo tickets in 2025

Refund of 2025 tickets (laredopetro.com)

Its $361 million in 10.125% unsecured notes due 2028 would have a redemption price of 107.594% of par at that time.

2028 Laredo Ticket Refunds

Refund of 2028 tickets (laredopetro.com)

These two note maturities have a combined total of $91 million per year in interest charges, so if Laredo can redeem them, it would save a significant amount on interest charges. Laredo should be able to generate more than $600 million in positive cash flow in 2023 at the current strip, giving him the cash available to redeem those notes if he chooses to do so.

Conclusion

Laredo Petroleum is penalized by its large amount of hedges for 2022, but should still be able to generate more than $350 million in positive cash flow at the current strip. For 2023, it has far fewer hedges and may be able to generate over $600 million in strip-positive cash flow.

This would allow Laredo to end 2023 with a modest amount (about $400 million) of net debt and significantly reduced interest costs assuming it pays off its 2025 and 2028 notes.

Assuming Laredo can reduce its net debt by $365 million in 2022, I estimate its value to be between $82 and $99 per share in the longer term (after 2022) $70 WTI oil.