Magnolia Oil & Gas (MGY) has unusually deep management for a relatively small company with a short history as a public company. Stephen Chazen who heads up this company is also the Chairman (again) of Occidental Petroleum (OXY). In fact if one quickly reviews the officers on the company proxy statement, there are several alumni from Occidental Petroleum now engaged in running key parts of Magnolia. That means that the management of this company has unusually deep experience considering the size and age of the company.

Investors should therefore expect some outperformance as a result of this experience. So far that appears to be a solid possibility. The Eagle Ford location of the leases appears to be one of the better locations. Meanwhile, the experience with the wells so far appears to likewise be above average. That could set the stage for an above-average future performance once the industry begins to recover from the current situation.

Finances

This company is going through the latest industry downturn with better-than-average finances. By management’s own reckoning, the total debt is less than the 12-month trailing EBITDA.

Source: Magnolia Oil & Gas September 2020, Investor Presentation.

The above gives management considerable leeway that many companies only wish they had during this downturn. Management is in the position to scoop up some distressed sales or even make a merger proposal from a position of financial strength.

This low debt also gives management some flexibility to borrow during the recovery to resume faster growth. In any event, this company will go through the coronavirus demand destruction from a position of strength and flexibility. This company will be a survivor.

Cash provided by operating activities was only $30 million in the second quarter. That quarter will likely be an outlier. The total cash flow from operating activities in the first six months was $165 million. Even the greatly reduced cash flow will properly service the debt load. One of the signs of experienced management is the ability to keep the debt load within typical lending guidelines during a time when many in the industry are asking for covenant relaxation clauses (for a fee of course).

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Well Profitability

The low cost players will be the first to recover.

Source: Magnolia Oil & Gas September 2020, Investor Presentation.

Even though the breakeven charts assume some rather high pricing compared to the present, the gross production figures shown in the second slide lend credence to the low breakeven points cited in the first slide.

That means that this company will most likely be making money if the WTI pricing stabilizes in the $40-dollar range. In fact, if the price of oil approaches $50, then this company will probably be back to normal operations while growing production.

The emphasis on liquids production should be a long-term competitive advantage. The fact that these wells produce at least 200,000 barrels of oil in the first twelve months is a testament to the advancement of well completion techniques. That level of production used to be a newsworthy event. Now it has become more commonplace.

That production also points up the fallacy of Tier 1 emphasis when analyzing oil and gas companies. This acreage has several intervals of oil and gas. Some will turn out to be more profitable than others. As the technology constantly improves through changes, the definition of Tier 1 acreage also changes to keep up with the latest technology. The result is that many companies do not show a decline (or only a modest decline) of their Tier 1 acreage.

Giddings Field

Furthermore, Texas is loaded with intervals like the Austin Chalk that have produced for a very long time. The Austin Chalk is experiencing a production revival due to new well completion techniques. That may also happen with other intervals that were thought to be exhausted or no longer commercial.

Source: Magnolia Oil & Gas September 2020, Investor Presentation.

Giddings Field is one of those areas that has been producing for a while. Now the latest technology will probably make the field more competitive than it has been in a while.

Management appears to have an excellent shot at producing 200,000 barrels of oil in the first year of production. That could be extremely important in the profitability of these wells because the decline curve is not nearly as steep as a typical unconventional well. Therefore, the profitability of these wells could be far greater than the Karnes County wells despite the higher well costs.

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Management will probably attempt to get more history before deciding to develop this significant acreage. Preliminary costs and flow rates look decent. But management may be able to wring some more costs out of the current well costs while increasing production in the first year some more. The current weak commodity prices make this the perfect time to optimize production before beginning a regular development program.

The Future

Typically, an IPO is not the time to purchase a new company. Many companies fall below their initial offering price.

Source: Seeking Alpha Website September 16, 2020

As shown above, this issue took a little longer than many others to decrease to about half of its original selling price. However, it did get there as do more than 90% of all initial public offerings. The odds are not with the investing public for a long-term gain as a result. For many investors that time period is long term.

Investors need to realize that management is selling stock to maximize the profits of the current shareholders. In the case of an initial public offering, those selling shareholders are not the public. Therefore, most times investors can get a bargain price just by waiting about 18 months or so. As shown above, the stock price did not seriously appreciate in those first 18 months. That would be true of a large majority of newly public companies.

That does not mean a newly public company will not have a very volatile stock. Many young companies often have volatile stocks that are loaded with trading opportunities for those so inclined. But long term holders do far better on average by waiting for an opportunity like the present.

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This company is in far better shape than the typical newly public company. The current coronavirus demand destruction did cause some losses. But the balance sheet remains very healthy.

Management appears to have found some extremely profitable acreage. Therefore, the odds of this stock appreciating significantly from current price levels appear excellent.

Furthermore, low debt companies rarely get into significant trouble. Meanwhile, that low debt often gives the company a second chance that the leveraged competitors do not get.

The low operating costs assure a relatively quick recovery from the current situation. This company, as part of a well-chosen basket of smaller companies, could offer a shareholder some above-average returns. This company is definitely worth consideration by investors that do not mind the risk that comes with investing in smaller companies.

I analyze oil and gas companies like Magnolia Oil And Gas and related companies in my service, Oil & Gas Value Research, where I look for undervalued names in the oil and gas space. I break down everything you need to know about these companies – the balance sheet, competitive position and development prospects. This article is an example of what I do. But for Oil & Gas Value Research members, they get it first and they get analysis on some companies that is not published on the free site. Interested? Sign up here for a free two-week trial.

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in MGY over the next 72 hours. 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: Disclaimer: I am not an investment advisor, and this article is not meant to be a recommendation of the purchase or sale of stock. Investors are advised to review all company documents, and press releases to see if the company fits their own investment qualifications.



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