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Morningstar | Reducing EOG Fair Value on Lower Average Well Performance Estimate

We have lowered our fair value estimate for EOG Resources to $85 per share after a closer look at the firm's fourth-quarter financial and operating results. The change was mainly driven by reducing our average 90-day initial production rate projections for EOG's assets in the Oklahoma and Permian regions.

To put that in context, we still rank EOG among the lowest-cost operators in the U.S. upstream segment, based on its highly productive premium acreage in a number of shale plays. Thus, our narrow moat rating is unchanged and our conviction in this rating remains high, given the firm's potential for sustainable excess returns on invested capital. However, moderating these estimates still weighs on our valuation. After the update, we think the stock is modestly overvalued at the current level, indicating that while the market is correctly awarding a premium valuation for one of the industry cost leaders, the magnitude of this premium is overdone.

As a reminder, the firm delivered production of 765 thousand barrels of oil equivalent per day in the fourth quarter, which was 2% higher sequentially, 15% higher year over year, and within guidance. Realized pricing was generally strong, with U.S. oil volumes selling slightly above the West Texas Intermediate benchmark on average, despite challenging basis conditions in several of the regions that EOG operates in. But marketing costs were commensurately higher as well, contributing to a sequential increase in cash operating costs of almost $0.80 per barrel of oil equivalent. Overall, the firm’s financial results were slightly weaker than expected, with adjusted EBITDA and adjusted earnings per share coming in at $1.99 billion and $1.24, respectively (consensus estimates were $2.1 billion and $1.35).

Additionally, EOG is bucking the trend among upstream firms of reducing capital spending in 2019. The company has set the budget at $6.3 billion at the midpoint and expects to drive 12%-16% U.S. oil output growth via 740 planned net well completions. That plan is expected to be cash-flow-neutral with WTI crude at $50 and will generate incremental free cash in a more favorable environment.