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Morningstar | Initiating Coverage of Parsley Energy With $18 FVE

We are launching coverage of Parsley Energy with a no-moat rating and a fair value estimate of $18 per share, making the stock fairly valued at current levels. The firm is a midsize Permian Basin pure play, with about 200,000 net acres of leasehold in the Delaware and Midland Basins.

Like most peers, Parsley has gravitated away from growth for growth’s sake and is now prioritizing free cash flows and returns. The 2019 incentive plan includes a component linked to cash returns on capital invested, formally aligning management and shareholder interests. And while the firm does not yet have the ability to fund its capital program organically, management aims to keep the 2019 outspending below $250 million (which is consistent with our forecast). The budget this year was based on a conservative assumption of $50 per barrel for West Texas Intermediate crude, but management has no plans to ramp activity if crude prices remain above that level for any length of time.

This year, management is further focusing on returns rather than growth, using fewer rigs, increasing proppant loading, and incorporating even wider spacing while focusing on the most lucrative geological zones. That marks a significant shift from prior years, when the strategy was to maximize the value of the firm's acreage by packing as many wells into it as possible, using eight to 16 wells per section per reservoir zone (tightly spaced wells can interfere with one another, leading to weaker average well performance and reduced capital efficiency). By adopting wider spacing with staggered configurations designed to minimize interference, the firm was able to deliver steadily improving initial production rates throughout 2018. Nevertheless, it will be several years before the firm can consistently earn its cost of capital, justifying our no-moat rating.