Durig Fixed Income Bond Review
This week, we focus on an exploration and production company in the oil and gas sector. Comstock Resources formerly focused on oil production. But in the past few years, it has refocused its efforts in natural gas exploration and production, significantly in the prolific Haynesville shale play in Texas / Louisiana. In 2016, 87% of the company’s total production was natural gas. Comstock recently reported its Q1 quarterly results that illustrates its focus on natural gas is beginning to show results.
Natural gas production increased sequentially 23% from Q4 2016.
EBITDAX increased by 133% year over year.
Oil and gas sales increased by 46%.
Comstock looks to increase its natural gas production by 40% in 2017.
Comstock also recently partnered with USG Properties to develop acreage in the Haynesville area. This move will help add inventory to Comstock’s reserves without as large an impact to the balance sheet as if the company had acquired and developed the acreage on its own. With natural gas demand continuing to increase in the U.S., Comstock appears to be on the right path. The company’s 2019 bonds are currently selling at a discount, with a yield to maturity of approximately 16.75%, making them an excellent addition to our strong performing FX2 income portfolio. See the most recent aggregate performance of our FX2 portfolio below.
Comstock recently reported its quarterly results for the three months ending March 31, 2017. The company’s focus in its Haynesville shale play are starting to yield dividends. In addition, higher oil and gas prices, along with its increased natural gas production, gave a handsome increase in total sales as well as adjusted EBITDAX.
Q1 natural gas production increased 11% year-over-year and 23% sequentially from Q4 2016.
Oil and gas sales increased by 46% to $54.3 million as compared to $37.2 million in the year prior.
Q1 2017 EBITDAX more than doubled to $34.2 million as compared to $14.7 million in Q1 2016.
Operating cash flow in Q1 totaled $15.9 million as compared to a $14.0 million loss a year earlier.
About the Issuer
Comstock Resources, Inc. is an independent energy company based in Frisco, Texas. The company is engaged in the acquisition, development, production and exploration of oil and natural gas with operations concentrated in Texas and Louisiana. As of December 31, 2016, the company owned interests in 1,371 producing wells. Its oil and gas properties are estimated to have proved reserves of 916 Bcfe, which are 95% natural gas and 5% oil. Comstock has over 78,000 acres in the prolific Haynesville shale formation, located in east Texas / north Louisiana. In 2015, it began redevelopment efforts within its Haynesville acreage. Due to recent low oil prices, Comstock has elected to defer additional development on its oil fields until prices recover from their current levels.
Haynesville Shale Formation
The Haynesville natural gas basin helped fuel the shale boom nearly a decade ago and has certain advantages over several other U.S. natural gas fields. It is located near several major pipelines, which translates to easy access getting the gas to market. There is no transportation bottleneck like is seen in the Marcellus shale located in the Ohio / West Virginia area of the U.S. In addition, export hubs to Mexico and proposed LNG plants are all geographically close.
Comstock has invested heavily in Haynesville and plans significant development in the area in 2017. Results from Haynesville have already shown promise. In Q1, the company’s natural gas production increased 11% over Q1 2016 levels and 23% over Q4 2016 levels due to its successful drilling program in the Haynesville area. In addition, Jay Allison, Comstock President and CEO, indicated in the company’s last earnings call that the company firmly believes it can grow natural gas production 40% in 2017 with its high-return Haynesville shale wells funded with operating cash flow. The company currently expects its 2017 capital expenditures to be $143 million, which will be spent to drill 22 gross wells. These wells will be extended lateral wells, which Comstock has already been using in Haynesville, with excellent results, yielding between 70% to 100% rates of return at natural gas prices of $2.50 to $3.00 / Mcf at current well costs.
Natural Gas Demand
Demand for natural gas in the U.S. is healthy and continues to grow. The U.S. has gas demand markets that are continually growing: natural gas for electricity, for industrial use, gas for global LNG (liquid natural gas) export, and gas exported to Mexico and Canada via pipeline. Natural gas is also gaining usage in heavy trucking and as use for backup for wind and solar power. Natural gas currently generates 34% of U.S. electricity, but accounts for a whopping 43% of U.S. power capacity, so there is still room for growth.
Earlier this year, Comstock Resources entered into a joint development venture to target the Haynesville shale formation. Comstock and USG Properties have begun jointly developing acreage in the Haynesville formation. Comstock will be responsible for operating the wells and will also manage the drilling program. In return, the company will receive 25% working interest. USG begins the partnership by contributing 3,315 net acres to the joint venture, and Comstock estimates a minimum of 20 wells will be drilled. Jay Allison, Comstock’s CEO, referred to the joint venture as “a great opportunity to capture future inventory for the company without really having to use a lot of the balance sheet”.
For Q1, Comstock had EBITDAX of $34.2 million, and interest expense of $32.9 million, for an EBITDAX to interest ratio of just over 1x. While this is lower than many companies we review, Comstock is in a great position to greatly increase its production this year, and with natural gas prices holding steady, this should significantly increase its revenue and cash flow this year.
Including the company’s credit revolver and cash, the company had $155 million in total liquidity as of March 31, 2017.
The default risk is tied to whether Comstock’s Haynesville strategy continues to yield solid results and production continues to increase. The company has had impressive natural gas production increases in Q1, which also contributed to the company’s 46% growth in its oil and gas sales. In addition, Q1 EBITDAX increased by 133%, and operating cash flow also registered impressive gains. In light of these factors, the outstanding 16.0% yield-to-maturity on the company’s 23-month, 2019 bonds do appear to outweigh the risks identified.
Since the vast majority of Comstock’s revenues are directly affected by the market price of natural gas, the company is greatly exposed to commodity price risk. It is difficult to predict the price movements in commodity markets, but natural gas prices do appear to have stabilized from its historic lows in 2016.
In general, bond prices rise when interest rates fall and vice versa. This effect tends to be more pronounced for lower couponed, longer-term debt instruments. Any fixed income security sold or redeemed prior to maturity may be subject to a gain or loss. Higher yielding bonds typically have lower credit ratings, if any, and therefore involve higher degrees of risk and may not be suitable for all investors.
Summary and Conclusion
Comstock Resources has chosen to focus on its lucrative acreage in the Haynesville shale formation. This strategy appears to be paying off as evidenced in its most recent quarterly results. Demand for natural gas in the U.S. continues to be strong and even increasing as natural gas supplants coal for power generation. The company has smartly partnered in a joint venture arrangement to add additional inventory and production without the large capital expenditure that would be required to acquire and develop the acreage on its own. We have selected Comstock’s 2019 bonds, couponed at 7.750% with a current yield to maturity of approximately 16.75%, as a fantastic addition to our FX2 managed income portfolio. It also bears noting that this FX2 managed portfolio appears to be greatly outperforming portfolios of clients who have selectively invested in some of the individual bonds we have recommended on Bond-Yields.com
Issuer: Comstock Resources, Inc.
Bond Coupon: 7.750%
Rating: Ca / CCC-
Yield to Maturity: ~16.75%
To learn more about this bond, call our fixed income specialist at: (971) 327-8847
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Registered Investment Advisor
DIR (971) 732-5119
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Disclosure: Durig Capital and certain clients may have positions in Comstock Resources Corporation April 2019 bonds.
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To learn more about this bond call our fixed income specialist at 971-327-8847