The energy sector has been one of the most difficult and volatile sectors to invest in over the past 12 months. The oil price has more than halved over the past year and although it has stabilised more recently, the short-term outlook is still negative.
Very few energy companies have been spared from huge share price falls and investors have seen large companies like Santos Ltd (ASX: STO) and Woodside Petroleum Limited (ASX: WPL) falls to prices that haven't been seen in years. Smaller producers like Senex Energy Ltd (ASX: SXY) and Beach Energy Ltd (ASX: BPT) have had even more dramatic falls as investors flee from the sector.
With the WTI oil price stabilising around US$60 a barrel and Santos' share price stabilising around $8, now might be a good buying opportunity for investors who believe the oil price has bottomed. There are numerous reasons for the fall in the oil price and many of these are yet to be resolved so investors need to be aware the price could fall further and be prepared for volatility.
Although the short-term outlook may still be negative, I think Santos has the most upside potential compared to the other oil and gas producers listed on the market. As the chart below shows, the share price has more than halved and now looks relatively cheap compared to the rest of its peers.
Source: Google Finance
There has been a lot of negative sentiment surrounding Santos with fears of a capital raising and around the ability of Santos to service its substantial debt. Santos is highly leveraged with net debt of around $7.5 billion and also needs to fund its FY15 capital expenditure and exploration program of around $2 billion. Management has moved to assure investors that the company will not require a capital raising and that existing debt facilities will be sufficient to see the company through this difficult period.
Despite the negative environment, Santos is moving ahead with its expansion plans and its Gladstone LNG (GLNG) plant is nearly complete. The project has been highly anticipated and Santos expects the first cargo to be shipped in the next quarter. If operations run smoothly, Santos expects GLNG to provide positive free cash flow as long as the oil price stays above US$40 per barrel.
Santos has also been working hard to reduce operating costs and improve efficiency. The production cost per barrel of oil equivalent in the first quarter of 2015 has been reduced by nearly $2 to around $14. This will increase the cash flow available to Santos and help buffer further falls in the oil price.
Foolish takeaway
Santos is a growth stock and I would caution investors looking to buy the stock based on the forecast dividend. Although this is attractive, if the oil price remains depressed for an extended period this dividend will certainly be cut. Instead, investors should see Santos as a long-term value investment and be willing to tolerate volatility in the short term. There is growing demand for LNG and Santos is highly leveraged to take advantage of this.
Are you looking for a stock that can provide even more growth potential than Santos?
