Then & Now: Sanchez Slashes Capex, Boosts Production While Waiting for a Price Recovery

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Written by John Egan for Industrial Info Resources (Sugar Land, Texas)--In 2014, Sanchez Energy Corporation (NYSE:SN) (Houston, Texas) produced about 30,000 barrels of oil equivalent per day (BOE/d) with a capital spend of nearly $700 million. For 2016, however, production nearly doubled, to about 52,000 BOE/d, and full-year capital outlays were lowered by over 50%, to between $250 million and $300 million. Better drilling science in Sanchez's core Eagle Ford, plus rising crude-oil prices and the sale of some non-core assets, are boosting the outlook for the independent Oil & Gas producer, which was formed in 2011. Industrial Info is tracking two active projects valued at $260 million in which Sanchez Energy is a joint venture partner.

The company's prospects shot up late last week after it announced it and a unit of Blackstone Group L.P. (NYSE:BX) (New York, New York) were 50/50 partners in acquiring 318,000 gross operated acres (155,000 net) of land in the Eagle Ford Shale from Anadarko Petroleum Corporation (NYSE:APC) (The Woodlands, Texas) for $2.3 billion. Sanchez Energy's half of the transaction will increase its daily production by about 33,500 BOE/d and add about 150 million BOE to its proved reserves. The current production and reserves are about 70% to 75% liquids, the company said in an announcement January 12.

The new properties will boost Sanchez's daily production by about 63%-- to about 85,000 BOE/d from 52,000 BOE/d. Sanchez will gain 66 gross drilled but uncompleted wells (DUCs) in the Eagle Ford from the transaction. The company said some of those DUC wells have rates of return expected to exceed 100%.

Sanchez's stock price soared nearly 30% on Friday. The transaction was announced Thursday after the markets closed.

In announcing the deal, Tony Sanchez, III, chief executive of Sanchez Energy, said: "This accretive and transformative acquisition more than doubles our drilling inventory, ... increases Sanchez Energy's resource potential by over 550 million BOE and provides a path for strong growth within projected cash flow."

He added, "With the asset strategically located adjacent to our existing Catarina asset, we anticipate substantial operating synergies and other benefits arising from the scale and concentration of our Eagle Ford position. Our continued focus on the Western Eagle Ford, expertise at multi-bench development, efficient cost structure and strong liquidity position will enable us to create significant value from the acquired assets."

Industrial Info's "Then & Now" series explores what independent Oil & Gas Producers have done since crude-oil prices collapsed in late 2014 to become more competitive and continue operating in a low-price environment. For earlier articles in this series, see January 4, 2017, article - Then & Now: Continental Resources Cuts Costs, Boosts Outlook, but Losses Grow, January 11, 2017, article - Then & Now: Sheffield Ends Run at Pioneer with a Bang, Leaves Company Well-Positioned for New Leaders and January 12, 2017, article - Then & Now: Cabot Oil & Gas Keeps Growing Production, Waits for Pipelines.

Life at Sanchez Energy is a family affair: Sanchez family members own about 15.6% of the company's common stock, and three family members occupy leadership positions in the company, including executive chairman of the board, chief executive and president.

In mid-2014, when oil prices were still above $100 per barrel, Sanchez Energy acquired acreage in the Catarina area of the Eagle Ford Shale, which doubled its acreage, production and reserves while more than doubling its annual revenue, to $666 million from $314 million in 2013. But the late-2014 swoon of crude-oil prices forced Sanchez to record asset-impairment charges of $213 million that year. Crude oil prices were high for the first three quarters of 2014, and spot cash prices for West Texas Intermediate (WTI), the U.S. benchmark, averaged about $93 for 2014 as a whole, according to the U.S. Energy Information Administration (EIA) (Washington, D.C.).

But low crude-oil persisted through 2015, pushing down the annual average price of a barrel of WTI to $49.65, the agency said. The full-year weakness in prices in 2015 compelled Sanchez to take a much larger asset-impairment charge that year, $1.365 billion.

As with many of its brethren in the Oil Patch, profits have proven elusive for Sanchez Energy, mostly due to asset-impairment charges. In the third quarter of 2016, a $60 million asset-impairment charge wiped out a small pre-tax operating profit Industrial Info's Oil & Gas experts will discuss market trends and spending outlook for that industry at Industrial Info's upcoming Market Outlook & Networking Event at the George R. Brown Convention Center in Houston, Texas, on January 17, 2017. The event is complimentary but space is limited, so be sure to RSVP today!

The company can't do anything about crude oil prices or what is paid for assets in 2014. But what it can do--and has done--is lower its drilling & completion (D&C) costs and boost its well productivity. Sanchez's D&C costs in the Eagle Ford during the third quarter were about $3 million per well, down more than half from its late-2014 cost. At $3 million, Sanchez's D&C costs also were lower than 18 of its competitors in the Eagle Ford, the company said in a November 2016 investor presentation.

About 50% of the D&C cost reductions came from process improvements while the other half came from price discounts from service providers, Sanchez Chief Operating Officer Chris Heinson told Oil & Gas Investor last year. "When there is a rebound (in oil prices), we're going to be much more profitable ... than we were previously," he predicted.

"We've invested a lot of money in understanding the science behind picking our drilling targets, and it's produced better results," Heinson told that magazine. "Largely without dramatic changes to our completion design, we've been able to (increase) production by roughly 50% with more definitive, precise targeting of our zones. This is key to our success."

With lowered D&C costs, the company can produce internal rates of return in excess of 80% when oil is priced at $55 per barrel, he added. The company has "strong economics" even if crude oil falls to $40 per barrel, Heinson added.

Investors took note, driving the company's stock up about 122% in 2016, one of the highest gainers in the Oil & Gas industry. By contrast, many of Sanchez's peer independent producers saw gains of about 40% in their stock prices last year. Most of Sanchez's stock-price gains followed its early November discussion of cost-reduction efforts with investors. And, of course, expectations got even higher after the January 12 announcement of the purchase of land and producing properties in the Eagle Ford.

Still, at about $11 per share, Sanchez stock price is still well down from its recent historic peak of $38 a share during the halcyon days of mid-2014, before Saudi Arabia flooded the market with crude to protect its market share, driving crude-oil prices down by over 50%.

Analysts were cheered by the fourth-quarter rally in crude-oil prices, which jumped about 25%. But the extraordinarily low price of WTI crude oil during the first quarter of 2016 (about $33 per barrel, according to EIA) pushed down the commodity's full-year average price to about $43 per barrel, roughly $6 less than the $49 per barrel average price in 2015, a year when low prices forced Sanchez to take a $1.365 billion asset-impairment writedown. So it is unclear just how much Sanchez Energy will benefit from recent crude-oil price movements.

We'll know more in a few weeks, when Sanchez reports its fourth-quarter results. Any rebound in the natural gas liquids (NGL) market should boost the company's profitability, as nearly one-third of its hydrocarbon production comes from NGLs, which slumped for most of 2016, but rallied toward the end of the year.

Industrial Info Resources (IIR), with global headquarters in Sugar Land, Texas, five offices in North America and 10 international offices, is the leading provider of global market intelligence specializing in the industrial process, heavy manufacturing and energy markets. Industrial Info's quality-assurance philosophy, the Living Forward Reporting Principle™, provides up-to-the-minute intelligence on what's happening now, while constantly keeping track of future opportunities. Follow IIR on: Facebook - Twitter - LinkedIn. For more information on our coverage, send inquiries to info@industrialinfo.com or visit us online at http://www.industrialinfo.com.