Since I last wrote about Mid-Con Energy Partners (MCEP), the market has not been terribly kind to the business. Based on my math, since the publication of my article on it on May 27th, shares have tanked a remarkable 35.6% and have actually dropped by as much as 42.9%. Seeing as how such a massive drop has taken place, I figured it would be interesting to revisit the firm and give my own thoughts on not only my prior argument but also on where I believe the business is headed moving forward.
A look back
When I published my last article on Mid-Con, shares of the business were going for $2.05 apiece. Today, they are down to just $1.32, which represents quite a large drop in a short period of time. In my piece on the enterprise, I made the case that its financial condition was improving but that there were some issues. For starters, the company’s credit facility capacity was still too small for comfort, with only $21.5 million in wiggle room on its $140 million facility.
The other big warning I made was that shares of the business did not look particularly cheap compared to some rivals like Legacy Reserves (LGCY). Though, to be fair, Legacy hasn’t been a shining example during this time frame either, despite how cheap the business looks, as evidenced by the fact that its share price dropped nearly as much, falling 34.7%. As a result of where shares of Mid-Con were trading for, I said that there was risk investors should be aware of, namely that if energy prices tank, not only could the firm’s borrowing capacity be at risk, but its market value could be impaired as well.
Sure enough, that’s precisely what happened, but in all honesty, the drop in share price for Mid-Con was larger than I expected given the drop in the price of oil (which makes up around 94% of the company’s output). Since May 27th, oil prices plummeted only to make a comeback and are now trading at a premium of 0.4%. This comeback is incredibly important because every dollar above breakeven (adjusted for taxes and hedging impacts) should mean an extra dollar per barrel in cash flow for Mid-Con.
But is Mid-Con now a buy?
After seeing such a large drop in Mid-Con’s market cap (a decrease of $22.11 million), I found the idea of buying into the business to be appealing, but I will only buy if I believe the numbers make sense. To see whether or not this is the case, I decided to create the table below, which looks at cash flow prospects for Mid-Con for this year, next year, and 2019. The data assumes that current guidance for the firm holds in perpetuity, that oil prices average $49.79 per barrel, and that natural gas prices average the $2.923 per Mcf that they are at today.
*Created by Author
For 2017, net of preferred distributions, Mid-Con should generate cash flow of around $9.72 million. Technically, the company could have increased this by $2 million if they decided to pay preferred distributions in the form of additional preferred shares ($2.5 million worth instead), but that’s not the choice management elected. Next year, cash flow should be the same before rising modestly to $9.76 million in 2019 due to the nature of their hedges.
Truth be told, this is not a lot of money at first glance, but compared to Mid-Con’s market value, it’s pretty decent. Without preferred distributions, it’s trading at 3.41 times free cash flow, and after it’s going for 4.12 times free cash flow. Given the nature of company valuations, I would actually consider this to be attractive, but only because of the fact that I believe energy prices should be meaningfully higher in the next two years.
There is, however, one thing still stopping me from pulling the trigger. You see, unlike in the case with Legacy, which does, admittedly, have far more debt than Mid-Con, Mid-Con’s wiggle room provides little to no room for error. If energy prices fall again and stay low, it wouldn’t be unreasonable to see lenders, especially when the company’s cash flow under current conditions could be better, cut the business’s borrowing capacity further. In the case of Legacy, however, which has $150.1 million in wiggle room on its $600 million credit facility, a cut to its borrowing capacity that is seven times larger than the cut Mid-Con could receive before entering truly dangerous territory, could be had before Legacy would fall into the same boat. This is despite the fact that Legacy’s market cap is just 2.4 times larger than Mid-Con’s and despite the fact that Legacy’s cash flow potential, even under current conditions, is greater than Mid-Con’s.
As time goes on, I continue to review and assess Mid-Con, but I haven’t seen anything that is worthy of me pulling the trigger just yet (though I’m getting far closer than I have been in the past to doing so). Yes, shares of Mid-Con have dropped a lot, and should energy prices rebound further, the upside potential is significant. However, its worse credit facility position is acting as a deterrent for me at this time. If shares fall further and/or if management is able to get lenders to lighten up, I will consider buying in, but for the moment, I’m content to sit by the sidelines and build up my stake in Legacy (I’m considering buying more of it). Another alternative is if I see energy prices rise more, I would likely buy into Mid-Con or if we see something positive come out of its second-quarter earnings release that’s coming up but without seeing a subsequent material rise in its share price.
Disclosure: I am/we are long LGCY.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I may buy shares of Mid-Con if I like their upcoming quarterly data.
I own shares of LGCYO and LGCY.
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