Why Penn West Petroleum Ltd. Could Quadruple if Oil Prices Recover

Penn West Petroleum Ltd. (TSX:PWT)(NYSE:PWE) is a very risky bet, but there’s tremendous upside.

The Motley Fool

You’re reading a free article with opinions that may differ from The Motley Fool’s premium investing services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

For Penn West Petroleum Ltd. (TSX:PWT)(NYSE:PWE) and its investors, the bad news just keeps coming. Thursday was no different, as the company reported results for the fourth quarter of 2014.

In the quarter, Penn West’s total production dropped by 20% year over year (mainly due to asset sales), and the company posted a net loss of $3.57 per share. The quarterly dividend, which had already been cut from $0.14 to $0.03, was slashed down to $0.01. Penn West also acknowledged that “if crude oil prices persist below US$50 per barrel in to the second half of 2015, we do foresee potential challenges complying with our covenants.”

Of course, the company’s stock has been crushed over the past year; it’s down about 80%. This brings up the all-important question: Is Penn West in bargain territory? To answer this, we take a look at the value of the company’s reserves.

What’s the real value of Penn West?

According to an independent evaluator, Penn West’s reserves are worth $5.8 billion after-tax, assuming a 10% discount rate. After adjusting for cash, debt, and hedges, the company is worth $4.1 billion, or just over $8 per share. That’s a lot of upside from its $2 share price!

Not so fast

Before we all go rushing to buy Penn West shares, let’s take a look at how we got to those numbers above. After all, to value a company’s reserves, you need to have some assumptions about future oil prices. Penn West’s assumptions appear to be very optimistic.

To illustrate, Penn West is assuming an average oil price of US$65 in 2015 (keep in mind that the oil price has averaged around US$50 so far this year, and we’re already in mid-March). From there, the company is assuming US$80 oil in 2016, and US$90 oil in 2017. In other words, in order for Penn West to be worth $8 per share, oil prices need to almost double in just a couple of years.

Making matters worse, developing these reserves will require capital spending of $1 billion in each of the next three years. Penn West does not have this kind of money.

An extreme bet

Let’s be frank. Penn West is a company with over $2.1 billion in total debt, a big number for a company valued at only $1.0 billion. Even scarier, the company’s short-term debt is over four times its cash balance! So, if the oil rout persists, the stock is likely worthless.

On the other hand, if oil does recover, and Penn West is able to fully exploit its reserves, the stock could quadruple. The stock is really an oil bet on steroids.

Personally, I’m going to sit this one out. There are too many reasons to believe the oil rout isn’t over, and I don’t want to hold a stock with this much downside. However, if you are really confident in the sector, it doesn’t hurt to make a small bet on Penn West. Just make sure to blow on the dice before you roll.

Just Released! 5 Stocks Under $50 (FREE REPORT)

Motley Fool Canada's market-beating team has just released a brand-new FREE report revealing 5 "dirt cheap" stocks that you can buy today for under $50 a share.

Our team thinks these 5 stocks are critically undervalued, but more importantly, could potentially make Canadian investors who act quickly a fortune.

Don't miss out! Simply click the link below to grab your free copy and discover all 5 of these stocks now.

Claim your FREE 5-stock report now!

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Benjamin Sinclair has no position in any stocks mentioned.

Confidently Navigate Market Volatility: Claim Your Free Report!

Feeling uneasy about the ups and downs of the stock market lately? You’re not alone. At The Motley Fool Canada, we get it — and we’re here to help. We’ve crafted an essential guide designed to help you through these uncertain times: "5-Step Checklist: How to Prepare Your Portfolio for Volatility."

Don't miss out on this opportunity for peace of mind. Just click below to learn how to receive your complimentary report today!

Get Our Free Report Today

More on Energy Stocks

A plant grows from coins.
Energy Stocks

2 Discounted Dividend Stocks With Significant Growth Potential

If you’re in search of income and capital appreciation in the long run, here are two discounted Canadian dividend stocks…

Read more »

Senior uses a laptop computer
Energy Stocks

Here’s How Investors Can Turn $15,000 in a TFSA Into $235,000

Energy stocks aren't created equal, and this one might be one of the best of the batch.

Read more »

A red umbrella stands higher than a crowd of black umbrellas.
Dividend Stocks

3 Reasons I’m Considering Enbridge Stock for a $5,000 Investment This April

I'm considering Enbridge stock to provide some defensive appeal and a juicy dividend to my long-term portfolio.

Read more »

Oil industry worker works in oilfield
Energy Stocks

CNQ Stock: Buy, Hold, or Sell Now?

CNRL is down 35% in the past year. Is CNQ stock now oversold?

Read more »

Canadian dollars in a magnifying glass
Dividend Stocks

Young Investors: How I’d Allocate $10,000 for Long-Term Potential

Young Canadians can achieve financial independence faster by saving and investing early.

Read more »

canadian energy oil
Energy Stocks

How I’d Position $7,000 in This Canadian Energy Stock for 2025 Growth Potential

Tourmaline, Canada's low-cost and largest natural gas producer, is benefiting from strong industry fundamentals.

Read more »

nuclear power plant
Energy Stocks

1 Magnificent Canadian Stock Down 40% to Buy and Hold Forever

This energy stock may be down, but do not count it out if you're looking for long-term income.

Read more »

A plant grows from coins.
Energy Stocks

Where I’d Put $15,000 in Top Energy Stocks for Income and Appreciation

The recent pullback in energy stocks presents a compelling opportunity for long-term investors to generate capital gains and dividend income.

Read more »