Billions In LNG Costs Burden Apache

Apache Corp. (NYSE: APA) may be the surprise story of 2014, but its last remaining hurdle is the need to sell a significant portion of its Kitimat LNG stake and the billions in future capital costs that go with it.

“We see 2014 as a defining year for Apache,” said Bob Brackett, senior analyst for Bernstein Research in a March 25 report. “Apache has long lagged peers on both price/cash flow multiples and enterprise value/PV-10 of proved reserves.”

After divesting billions of dollars in 2013, Apache has shrunk estimated production to 537,000 barrels of oil equivalent per day (boe/d) from 700,000 boe/d. However, investors did not take the company’s 2014 production guidance, of 5%-8% growth, well.

In February, the stock fell 4% on the news. But Brackett said Apache is underestimating what it can deliver, which should trump project concerns.

“We independently modeled their U.S. onshore assets for their drilling plans and think that overall portfolio growth of 10%-plus should be very achievable,” he said. “Specifically, we think that they can grow well above 20% in both their Permian and Central plays given the rig and well plans for 2014 vs. the 12%-15% they have,” he said.

Apache Production Estimates, 2014

Source: Apache Investor Day presentation, Bernstein estimates

However, the Chevron Corp.(NYSE: CVX) joint venture (JV) at Kitimat isn’t Apache’s only problem. It also has the Wheatstone LNG project, which reaches its peak capex in 2014 at $1.4 billion to go with its $1 billion Kitimat capex.

Nearly all LNG projects in recent years suffered cost overruns, Brackett said.

“Wheatstone capex could still increase, reducing expected full-cycle internal rate of return (IRR) from 11% to below 10%,” he said. “This alone wouldn’t be a disaster, but we believe APA has higher return opportunities for that capex in U.S. onshore. The bigger implication is the potential cost overrun for Kitimat.”

Brackett said he thinks Apache will be able to sell down its 50% stake in Kitimat this year.

CEO G. Steven Farris has said the company may be close to a deal with a partner.

“The most likely partner is Sinopec, which is reportedly also in talks with Petronas for a different Canadian LNG project,” Brackett said. “Given that APA's share of Kitimat as it stands requires about $15 billion of capex in the coming few years, and expected IRR is only in the low-to-mid teens, it's critical that APA is able to reduce its stake.”

Brackett said that the company can turn the corner. It has attractive assets and fetches a healthy price per barrel.

“We continue to rate Outperform, and also continue to closely monitor their LNG developments,” Brackett said.