Diversified Gas & Oil PLC (LON: DGOC) – Continues to Hunt for Natural Gas Deals for Future Growth.

Diversified Gas & Oil PLC is a FTSE AIM-listed Company, which owns and operates natural gas and oil production assets across the Appalachian Basin (hydrocarbon producing region in the United States). The Company was incepted in 2001, and since then it is focused on operating a stabilized production through a long-life and low-risk portfolio of wells, along with significant midstream operations. The Company’s strategy is to acquire and manage long-life natural gas and oil assets to generate strong cash flows. The Company had an average daily production of 84.8 MBoepd by the end of FY19. The Company is headquartered in Alabama with operations in seven US states, including Ohio, Pennsylvania, Tennessee, West Virginia, Kentucky, and Virginia. As of 24 February 2020, the Company had 768 production employees and a total of 924 employees.


 (Source: Presentation, Company Website)

Key Fundamental Statistics



Segment Analysis

The Company operates through a single reportable segment that produces and transports crude oil, natural gas, and natural gas liquids in the Appalachian Basin. The breakup of revenue by products is given below:

 
(Source: Annual Report,  Company Website)

Recent Developments

2 July 2020: The Company announced the vesting of 161,667 Restricted Stock Units, which was issued to two senior management members. Subsequently, the Company allotted and issued 112,342 new equity shares in aggregate. These shares got admitted on the London Stock Exchange on 7 July 2020.

29 June 2020: The Company announced the completion of semi-annual redetermination of the senior secured credit facility, and thus, reaffirmed the borrowing base of US$425 million. The redetermination was led by KeyBank National Association. Following the redetermination, the Company had around US$213 million in liquidity and nearly US$756 million in net debt.

Operational Achievements of FY19

The Company has almost doubled the average daily production year-on-year to 84.8 MBoepd. Further, it acquired around US$430 million of producing & midstream assets during the financial year 2019. Also, the base lease operating unit costs reduced to US$3.31 per Boe, reflecting a 30% decrease from US$4.73 per Boe in FY18. Similarly, the cash unit operating cost slashed by 10% to US$7.71 per Boe in FY19 from US$8.55 per Boe in FY18.

(Source: Presentation, Company Website)

Top Shareholders Statistics

Q1 FY2020 Update on Trading and Operational Performance

The Group maintained net daily production of 94 MBoepd with focus on maintaining safety requirements and practising social distancing. Driven by an average hedge price of natural gas of $2.73/MMBtu, the adjusted EBITDA stood at around USD 78 million in Q1 FY2020. The Group’s total unit cash expenses stood at $6.98/Boe in Q1 FY2020, reflecting a decline of 22 per cent versus $8.90/Boe in Q1 FY2019. The Company expanded its hedge portfolio with around 90 per cent with production hedged at $2.73/MMBtu in 2020 and $2.59/MMBtu in 2021 and maintained dividend payments per quarter. DGOC announced a dividend of 3.50¢/share in Q1 FY2020, which demonstrate strong free cash flow generation ability of the company in low commodity prices period. The Groups’ distributions for Year-to-date include around USD 22 million as dividends and approximately USD 16 million in the repurchase of shares. On 14th April 2020, DGOC successfully raised USD 200 million from amortising securities with 8.5-year financing and will reduce the utilisation of RCF (revolving credit facility) of the Company. The available liquidity stood at USD 190 million for the period.

Financial Highlights – Reflecting an Increase in Revenue for FY2019 (31-December 2019)


(Source: Annual Report, Company Website)
 
For the financial year ending 31st December 2019, driven by higher production achieved for the period, the group’s revenue increased to USD 462.26 million (FY2018: USD 289.77 million). The gross profit stood at USD 161.73 million in the financial year 2019 (FY2018: USD 139.99 million), reflecting an increase in the revenue. Driven by higher operating expenses for the period, the group reported an operating profit of USD 180.51 million in FY2019 (FY2018: USD 295 million). The company’s PBT (profit before tax) stood at USD 131.49 million in the financial year 2019 (FY2018: USD 261.80 million), reflecting higher finance costs for the period. The profit attributable to the shareholders stood at USD 99.4 million in FY2019 (FY 2018: USD 201.12 million). The basic and diluted earnings per share stood at $0.15 in FY2019 (FY2018: $0.52).

Financial Ratios – Strong Profitability Margins versus the Industry Median 
 
 
 (Source: Refinitiv, Thomson Reuters)

Reported profitability metrics for the financial year 2019 were higher against the industry median, reflecting higher revenue generated and better control over expenses as compared to peers. Diversified Gas & Oil Plc has delivered a substantial return for the shareholders’ as Return on equity of 11.8% was higher as compared to the industry median of 8.8%. On the liquidity front, Diversified Gas & Oil Plc’s current ratio was higher than the industry median of 1.21, reflecting sufficient liquidity to meet short-term obligations. On leverage front, the debt-equity ratio was 0.67x, which was higher as compared to the industry median of 0.44x, reflecting that the company is more leveraged as compared to the industry.  

Share Price Performance


Daily Chart as on 8^th July 2020, before the market close (Source: Refinitiv, Thomson Reuters)

On July 8, 2020, at the time of writing (before the market close, at 11:07 AM GMT+1), Diversified Gas & Oil Plc shares were trading at GBX 96.80, up by 0.62 per cent against the previous day closing price. Stock 52 week High and Low were GBX 118.00 and GBX 52.69, respectively.

Bullish Technical Indicator

From the technical standpoint, shares were trading above the short-term support level of 10-day simple moving average prices, which reflects an uptrend in the stock and carrying the potential to move up further.

14-day RSI is currently in an oversold zone, which means there is a good potential for a short term rebound in the stock price.

Valuation Methodology

Price/Earnings Approach (NTM)



To compare Diversified Gas & Oil Plc with peers, Price/Earnings multiple has been used. The peers are Pharos Energy Plc (Price/NTM Earnings was 8.58), Independent Oil and Gas Plc (Price/NTM Earnings was 4.84), Petrofac Ltd (Price/NTM Earnings was 4.52), Tullow Oil Plc (Price/NTM Earnings was 1.13) and EnQuest Plc (Price/NTM Earnings was 0.60). The Average of Price/NTM Earnings of the company’s peers was 9.22x (approx.).

Diversified Gas & Oil Plc Vs FTSE-AIM Index (5 Years)


(Source: Refinitiv, Thomson Reuters)

In the last five years, Diversified Gas & Oil Plc share price has delivered 71.38 per cent returns as compared to 4.92 per cent returns of FTSE-AIM index, which shows that the stock has outperformed the index during the last five years.

Industry Outlook Dynamics

As per IBIS World, the market size of the US Natural Gas Distribution industry is $157.0 billion in 2020, which has grown by 1.2% per year average between 2015 to 2020. Going forward, the adoption of electric power consumption can negatively impact the industry. Moreover, the ongoing challenges arisen after Covid-19 disruption continues to put oversupply and low prices pressure. However, the rising population and increasing energy consumption hold the upside potential for industrial growth in future.

Growth Prospects and Risk Assessment

Diversified Gas & Oil PLC has a reliable asset base with preferential leverage position of less than 2.5x, which provides the foundation for robust current operations and the potential for future growth. The Company hedge the portfolio in advance to protect cash flows and EBITDA margins against the market fluctuations. Moreover, the dependable production and attractive margins underpin the commitment to produce substantial shareholder return through consistent quarterly dividends. The Company aims to provide visibility and security on cash flow and protect the downside by engaging in hedging, at the cost of potential upside, which protects it from any adverse fluctuation in market prices. Even in an environment of lower commodity pricing, the Company has been able to generate strong free cash flow as it seeks to manage risk through long-term agreements and hedging. The Company is able to maintain adequate capital allocation balancebetween a strong balance sheet, investment for growth and returns to shareholders. With new extraction technology and rigorous field management programs, the Group seeks to maximize the output from the portfolio in an efficient way. The Company has many value-accretive projects in the pipeline with low risk and higher production capabilities.


 (Source: Presentation, Company Website)

However, the US gas market continues to operate in a difficult environment due to abundant supply and low gas prices. Moreover, any failure to generate substantial free cash flow can affect the business prospects of the Company. Besides the liquidity risk, the Company operations are subject to regulatory and environmental risk. The Company operates in multiple geographies, and profits can be impacted negatively due to foreign exchange rate fluctuations. The prices of various commodities can be subject to significant fluctuations, and as the prices are affected by global supply and demand, the Group does not have any influence on the market prices. Furthermore, the sector is exposed to political, financial and operational risks, each of which has the potential to impact the business growth trajectory.

Business Outlook Scenario

The Company has shown a decent financial performance in the first quarter of the fiscal year 2020. The new acquisitions made by the Company has helped them to capture more customers, increased their capabilities and expansion plans in other markets as well. Despite the uncertain environment and low commodity prices, the Group has managed to maintain the net daily production with maintained adjusted EBITDA versus Q4 FY2019 data. The recent redetermination of the Group has brought hedging flexibility and increased borrowing base. Due to the outbreak of coronavirus (COVID-19), the oil prices have fallen substantially in the first quarter of 2020. The Group remained discipline while investing in the new projects, as the recent macro-economic factors are making the environment more challenging.

Over the course of 4 years (FY15 - FY19), the company's revenue surged from $6.3 million in FY15 to $462.3 million in FY19. Compounded annual growth rate (CAGR) stood at 192.68 per cent.

Based on the decent growth prospects and support from the valuation as done using the above method, we have given a “Speculative Buy” recommendation at the current price of GBX 96.80 (as on 8^th July 2020, before the market close at 11:07 AM GMT+1), with lower-double digit upside potential based on 9.22x Price/NTM Earnings (approx.) on FY20E earnings per share (approx.).
 
*All forecasted figures and Peer information have been taken from Refinitiv, Thomson Reuters.
*Dividend Yield may vary as per the stock price movement. 

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