Wall Street expects Q3 results to show shale gas companies kept cash flowing

Analysts expect U.S. shale gas drillers to address two major questions in third-quarter earnings reports: how the drillers plan to use the profits from elevated natural gas prices and how inflation will affect their capital budgets.

The top shale gas drillers are expected to report significant free cash flows because gas prices stayed elevated in the third quarter. Analysts said they want to know if that extra cash will be used for dividends, share buybacks, debt reduction or all of the above.

Healthy cash flows among America's oil and gas producers have attracted renewed interest in energy stocks from general investors, according to Jefferies LLC analyst Lloyd Byrne, who resumed coverage of the sector Oct. 18. Investors see shale gas as a safe haven with significant yields, Byrne said.

"Over the near term, we expect significant price volatility in 2023 as we see production outpacing demand, which will bring Henry Hub prices lower," Jefferies said. "We see this as the opportune time for investors to build positions, as our medium-to-long-term outlook for the commodity is positive" because natural gas has a future providing power and heat in any societal transition to cleaner sources of energy, it added.

In the near to medium term, demand for liquefied natural gas exports will keep Henry Hub prices tied closer to global prices, Byrne said. "We see significant upside to demand from the build-out of U.S. LNG."

Jefferies' top gas picks are in the Appalachian shales: natural gas liquids-heavy producer Antero Resources Corp. Chesapeake Energy Corp. and EQT Corp., America's largest gas producer by volume.

General investors coming back

Truist Securities Inc. oil and gas analyst Neal Dingmann also believes that shale gas exploration and production companies, or E&Ps, are on the cusp of new interest among general investors after more than a year of showing capital discipline. Drillers have demonstrated that they can stay within budget and pass the extra returns from high prices on to shareholders, Truist said.

"Demand for energy stocks is about to dramatically increase given the material free cash flow yields that we think are likely to stay," Truist said Oct. 17. "While energy investors are not yet stepping into many new positions, our conversations and other dealings suggest that is about to change."

Amid all the positive news, Truist said Wall Street and drillers are underestimating the effects inflation will have on budgets. "We question what might happen to capital spending next year in order to keep production at least stable," Truist said. "In fact, we believe 2023 consensus capex estimates might be too low for a number of E&Ps."

M&A could heat up in Q4

At the same time, Truist expects that the M&A outlook will get warmer and there will be deals in the fourth quarter. "Another wave of M&A could hit," sparked by public companies buying up private drillers with producing properties, Truist said.

"We now believe we could see the typical surge in deals into the end of the year," Truist said. "There remain hundreds of private operators in the space, with a growing number looking to cash out in the not-too-distant future."

Goldman Sachs oil and gas analysts Neil Mehta and Umang Choudhary said they will look positively on third-quarter results that show companies paying back shareholders while managing costs and execution.

Like Truist, Goldman Sachs worried that any coming economic downturn could affect shale gas. "While we continue to be constructive on the sector as we see an attractive long-term price outlook for both oil and gas which can support further upside … we believe there remain near-term risks including economic growth concerns," Goldman told clients.

Based on Goldman's long-term optimism for gas demand and profits, the bank's analysts liked Chesapeake and EQT coming into the third-quarter earnings season.

S&P Global Commodity Insights produces content for distribution on S&P Capital IQ Pro.