Atlas Resource Partners (ARP)

Natural gas prices are low, MLP yields are high. Throw in a spin-off and you get Atlas Resource partners.

Background:

Atlas Energy (ATLS) is a MLP with two subsidiaries, Atlas Pipeline (APL) and the newly spun off Atlas Resource Partners. The old Atlas Energy MLP was sold to Chevron in November of 2011 for 3.2B in cash. The company is engaged in US natural gas and oil plays.

ARP was spun off March 15, 2012. ATLS retained 20.96M common units, 2% general partner interest and all incentive rights. They have over 8,600 wells operating currently and ARP recently bought 277 bcfe of proven reserves from Carrizo (CRZO) for $190M. They expect 2013 pro-forma distributions to be $2.25-2.40 representing a yield around 8% at today's share prices.

Properties:

Currently ARP has 8,500 drilled wells in Appalachia that produce ~30Mmcf/d, 150 wells in Indiana, 450 wells in Tennessee, and hopes of drilling over 200 wells in Colorado. The recent Carrizo acquisition gives them access to an additional 198 wells and 277 Bcfe of reserves. Carrizo sold these properties to pay off revolving debt and to fund expenditures in their Eagle Ford play. It also sounds like they wanted to focus more on liquids. As many E&P companies are.

While I can only speculate, it seems that they did get a good deal. At $4,219 per Mcfed ($23,204 per BOE/d) and 0.69/Mcfe proven reserves this reflects favorably compared to other public companies and previous transactions. As a comparison one can buy Gale Force Petroleum at outright at 11M and get 275 BOE/d, with plans of getting 350 soon. While obviously not a perfect comparison for multiple reasons it works out to $40,000/BOE/d.

Management:

Jonathan Cohen is the Chairman of the Board and Edward Cohen is their CEO. The father and son team has been in the oil industry for awhile and did quite well with old Atlas. From the time of the IPO to the acquisition shares grew over 800%. I loved Edward's quote from CNBC just a few weeks ago "the people who are busily selling, we are busily buying. When the blood is running in the street that's a good time to be buying." I'm not sure there's blood in the streets due to low natural gas prices, but he is in Texas, so who knows.

COO is Matthew Jones. He too has been with Atlas for since the IPO, CFO since 2005.

Valuation:

I'm new to MLP land and thus I revert back to understanding the business, it's prospects, it's management and it's downside. Right now with natural gas in the dumps and oil sky high it seems every company is doing what is expected: dumping natural gas and spending heavily on liquid rich fields.

The lack of capital spending on natural gas will eventually catch up and Mr. Smith's invisible force will be upon us. When? I have no idea and pretty much any forecast besides "never" will probably be too soon. With the proposed EPA restrictions on more polluting coal plants, companies like Huntsman and Dow bringing production back to the US due to low natural gas prices, and other economic influences prices should recover.

Well capitalized and more importantly, well managed, natural gas companies should emerge with relative earning power if natural gas prices recover.

From their Form-10 they believe they will generate AEBITDA of $61.5M for the 12 months ending 12/2012, AEBITDA needs to be 52.9M to pay the minimum distribution. They have maintenance capex of 9.2M and interest expense of 900K, therefore FCF will be around 51M in 2012.

This was before the Carrizo acquisition and thus FCF will be higher. I'll consider distributions a reasonable proxy for FCF. With the expected distribution in 2013 2.25-2.40 we're given a FCF yield of 8.0%-8.6%.

The future predictability of their cash flows is obviously dependent on two variables, the price of the commodity and the amount of said commodity they can produce. They have hedged well, as shown in their presentation and noted in their filings. They indicate they have upside potential if prices climb. How much is up for debate, they estimate they have 90% of natural gas production hedged next year.

Conclusion:

I believe that ARP is a well managed company. Unfortunately I don't believe it is worth an investment right now. No number of models lead me to 20% returns annually. The bottom line is that this is a company selling at roughly 12X distribution, a rough estimate of FCF. While great if I wanted long term steady income, I will pass for now. I will continue to investigate small natural gas plays hoping to find the diamond in the rough. This spin-off has not created an opportunity in this case.