COG Cabot Oil and Gas Corp

We are reiterating our Neutral recommendation on Denver-based Forest Oil Corporation (FST). An independent oil and gas company engaged in the acquisition, exploration, production and development of hydrocarbon properties in North America is expected to witness margin expansion going forward owing to its exploration activities. However, its reduced 2011 production volume keeps us skeptical for the time being.

In order to maximize its margins, Forest Oil remains proactive in expanding its liquid-rich acreage position. It added 82,000 acres of liquid-rich prospects during the first quarter. Management also intends to deploy more funds at its liquids-rich Granite Wash assets in Texas Panhandle, Deep Basin gas assets and Peace River Arch light-oil assets in Canada.

The company plans to apportion approximately 80% of its capital expenditure to liquids-rich prospects, mainly in the enhanced drilling program. The remainder is targeted primarily for gas development in the Deep Basin of Alberta, Canada, that promises profits in the form of provincial royalty incentives.

Forest Oil’s initial Eagle Ford results appear promising. The company completed four Eagle Ford wells with an average initial rate of 733 barrels of oil equivalent per day (Boe/d). The company’s acreage in the Eagle Ford Shale, located in Gonzales and Wilson Counties, have bred some of the most enduring wells so far and is expected to turn up as Forest’s most active area.

However, the company’s reduced production outlook keeps us on the sidelines. Forest Oil guides 2011 production of 470 million cubic feet equivalent per day (MMcfe/d), down from its prior expectation of 490 MMcfe/d.

The tempered outlook mainly reflects recent developments and actions that the company is taking in the Texas Panhandle - Granite Wash play along with significant weather and downstream third party infrastructure downtime in the first quarter of 2011.

Although we appreciate the company’s move toward increasing its oil-rich acreage, we remain concerned about its debt-heavy balance sheet (with a debt-to-capitalization ratio of 57.8% in the first quarter of 2011), as well as its weak reserves growth profile.

Hence, we expect the stock to perform in line with its peer, Cabot Oil & Gas Corp (COG).  Forest Oil currently holds a Zacks #3 Rank (short-term Hold rating).

 
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