An Energizing Natural Gas Play

07/14/2008 12:00 am EST

Focus: STOCKS

Jon Markman

Editor, Trader's Advantage

Jon Markman, editor of Strategic Advantage, says an Alabama natural gas utility is a double threat as energy prices remain high.

Alabama-based Energen (NYSE: EGN) is one part regulated natural gas utility and one part aggressive natural gas explorer. That's Dr. Jekyll and Mr. Hyde, Southern style.

Its utility, called Alabama Gas Corp., or Alagasco, purchases natural gas through interstate marketers and suppliers and distributes it through pipelines to homeowners, businesses, and industry throughout the state of Alabama. Its exploration unit, called Energen Resources, develops gas reservoirs in areas like the Alabama Shale, and has around 1.75 billion cubic feet equivalent in oil and gas reserves. After a steadfast expansion, it's now among the 20 largest independent exploration and production companies in the United States.

Shares have run up in recent months along with the rapidly advancing price of natural gas futures, of course, but also because there's been speculation that Energy is sitting on a massive gas reserve in property it owns in the Alabama Shale along with peer Chesapeake Energy (NYSE: CHK). Some analysts believe that the Alabama coalbed methane properties could come to rival the Barnett Shale that has made so many Texans wildly wealthy.

It is said to run along side the giant Missipian and Devonian Shales that underlie about a quarter of our continent. If the structure is as deep as suspected, it could dramatically change Energen's fortunes and provide a massive new source of energy to the United States.

Energen has been aggressively expanding its energy production operations while hedging current production at recent high prices. As a result, it has regularly raised its fiscal earnings guidance, acting more like a growth company than a utility. Energen's latest guidance is for earnings per share of $3.95 to $4.35 in 2008 and $4.45 to $4.85 in 2009. That suggests potential for income growth of around 11%.

At the current level around $78, the forward price/earnings multiple comes in around 15x, which is in line with historic averages. But all the forecasts are made based on a forecast of oil prices at around $85 in 2008 and $75 in 2009 and natural gas prices of around $8.19 per thousand cubic feet in 2008 and $8.40 in 2009. With oil now fetching more than $140 and gas fetching more than $13, you can figure that chief executive James McManus—a University of Alabama grad and employee at the firm for over 20 years—will have to push the estimates higher.

I think EGN is likely headed to the high $80s later this year, though it could consolidate into the low $70s first. That makes EGN a Buy.

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