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Contango Oil & Gas Company - Initiation Note

Contango Oil & Gas Company

(NYSE-MCF, $26.04)

Balanced Production Mix And Strong Financial Statement Should Drive Growth Initiating With A BUY Rating And $44 Price Target

January 9, 2015

Glenn Williams Jr.


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We are initiating coverage on Contango Oil & Gas with a BUY rating and $44 price target. We find MCF attractively priced at its current valuation, and with a year end 2013 PV-10 of $958 million currently trading at a 38% discount to its estimated future cash flows (as audited by 3rd party reserve engineers, Netherland and Sewell) on an Enterprise value (EV) to PV-10 basis. We compare that to MCF’s peers, which currently trade at an average 2% discount to PV-10. We find that MCF also trades at a 30% discount to peers on an EV to Flowing Barrel, and 20% discount on an EV to Proved Reserves basis.

(Investors should note that Contango’s reserve report is as of 12/31/2013, as Exploration and Production (E&P) companies typically report reserves once per year. We expect an updated reserve report in first quarter of 2015).

Additionally, PV-10 is calculated using the prior 12 month’s oil and gas prices. Given recent sharp price declines in oil (52%) and gas (34%), we refrain from using PV-10 as the basis to value MCF’s shares. Rather we use it for peer comparison, and note that all E&P companies are subject to year end reserve evaluations.

We arrive at our $44 price target using the average of our sum of the parts, Net Asset Value (NAV) calculation and our “flowing barrel” valuation based on Contango’s current rate of daily production (see exhibit 8). We use forward looking price assumptions to arrive at our NAV based target and cash flow estimates. We assume short term oil prices of $53/Bbl for oil, escalating to $75/bbl (in line with the current WTI futures strip). Additionally we assume short term prices of $3.00/Mcf for natural gas escalating to $5.00/Mcf, and $30.00/Bbl for natural gas liquids (also reflecting current strip prices).

MCFSource: S&P Capital IQ, National Securities Corporation Estimates

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