Major Fourth-Quarter Developments for Kodiak


Kodiak Oil & Gas is an oil and gas junior with operations focused almost exclusively in North Dakota's Williston Basin. Over the past couple of years, the company has seen a rapid acceleration in its production growth -- a trend it hopes will continue.

When Kodiak reported earnings on February 28, it missed Wall Street's estimates for both revenue and earnings, but a closer look shows promising developments in a few key areas.

For the fourth quarter, Kodiak's revenue from oil and gas sales soared 138% to $130.9 million, up from $55 million in the year-earlier period. Sales volumes for the quarter averaged 18,200 barrels of oil equivalent per day, up from an average of 7,200 barrels of oil equivalent per day in the same quarter the previous year.

For the full year, total oil and gas sales came in at $408.7 million, which is three and half times more than last year's $120 million. Crude oil made up the vast majority of the company's sales revenue.

For the fourth quarter, Kodiak reported net income of $33.3 million, or $0.12 per diluted share, up from a net loss of $33.8 million, or $0.15 per diluted share, in the fourth quarter of the previous year. This figure includes the impact of an unrealized loss related to the company's use of derivative instruments for hedging purposes, as well as non-cash deferred income tax expenses.

Adjusted EBITDA for the quarter rose more than threefold to $106.6 million, up from $35 million a year earlier. Improvement in full-year earnings was even more impressive, with a more than fourfold increase in adjusted EBITDA, from $76.4 million in 2011 to $317.1 million in the year just ended.

Important developments
Kodiak reported significant growth in total crude oil reserves, which increased 138% over the previous year's estimates to $95 million barrels of oil equivalent. As a result, the company raised its estimates of these reserves' PV-10 value -- a commonly used metric that represents the present value of estimated future revenues from the production of a company's proved reserves, net of estimated production and future development cost -- to $1.9 billion before income taxes.

According to Kodiak's estimates, the company has drilled and converted roughly a tenth of its potential drilling locations to proved, developed producing reserves. This is important since it should provide the company with plenty of drilling opportunities over the next several years.

Drilling program and hedges
Kodiak is currently operating seven drilling rigs. Given high oil prices, the company plans on keeping the seventh rig operating into at least the second quarter. For 2013, the company has allocated the vast majority of its capital budget to drilling and completing operated wells.

It plans to spend some $600 million on this purpose, with the remainder of its capital budget going toward non-operated drilling and completion activities ($140 million) and other items such as acquisitions, water disposal wells, and well connections ($35 million).

With respect to its hedging strategy, the company continues to hedge production from new wells as they come online. For the remainder of the year, Kodiak has hedged 15,000 barrels, mainly through swaps, at an average price slightly less than $95 per barrel. The company has also hedged 5,000 barrels into 2014 at an average price of $92.

Final thoughts
While Kodiak may have missed Wall Street's estimates, its fourth-quarter results show significant progress in several key areas. The company continues to see improvement in cutting costs, having reduced well costs by 15%-20% over the year and lease operating expenses by 30%.

While future expense reductions are expected to be smaller in magnitude, the company's extensive technical knowledge of the Middle Bakken and Three Forks formations should serve it well in achieving further field-level efficiency improvements.

Going forward, Kodiak has an ambitious production target for this year, aiming to double average daily production from last year's levels to 29,000-31,000 barrels per day. Having consistently increased both production and reserves over the past couple of years, Kodiak's large inventory of roughly 950 net drilling locations should provide plenty of room for the company to ramp up production further.

With takeaway capacity from the Williston set to improve further and its drilling programs enjoying strong cash margins, Kodiak's future looks promising. In the coming months, investors should closely watch the results of the company's two new pilot programs, which will help shape the company's future development strategy in the Williston Basin.


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