In most other industry cycles, $25 to $30 oil prices and $2.50 to $3 natural gas prices have triggered market jubilation and soaring share prices for E&P stocks. But alas, many investors of late, steeped in their whirlwind courtship of "new economy" high-tech and Internet issues, have put their energy portfolios on hold. Meanwhile, many other institutional buysiders simply don't believe that $25-$30 oil is sustainable. So they've been playing a waiting game, looking for West Texas Intermediate (WTI) crude prices to plummet to a more historical trading range of $18-$20. Could they be right? A lot of top oil and gas analysts don't think so. This includes many of the leading energy market seers in Canada, where the disconnect between commodity prices and E&P stock-price performance on the Toronto Stock Exchange (TSE) has been just as acute as it has been on the corner of Wall and Broad streets. Says one Maple Leaf energy analyst, "Investors are soon going to wake up to the ridiculously high cash flows and earnings that Canadian E&P companies have achieved so far this year-and the likelihood that crude oil prices will remain above $25 for the rest of 2000." But will that be enough to end the market malaise that has plagued oil and gas stocks over the past six months? To find out, Oil and Gas Investor recently visited with four top Calgary-based exploration and production analysts. Joining the discussion were Wilf Gobert, managing director, research, Peters & Co.; Scott T. Inglis, managing director, research, FirstEnergy Capital Corp.; Peter Linder, oil and gas analyst, Harris Partners; and Andrew Hogg, oil and gas analyst, Yorkton Securities Inc. We asked them about their outlook for commodity prices over the balance of this year and next, and about key market trends that will likely affect the performance of Canadian upstream stocks over that time. We then asked them for their top Canadian E&P stock picks for 2000, along with their 12-month stock price targets for those stocks. Among the 14 senior, intermediate and junior oils they cited, the most frequently touted stock was Canadian Natural Resources, followed by Talisman Energy Inc., Canadian Hunter Exploration Ltd., Bonavista Petroleum Ltd. and Genesis Exploration Ltd. The common denominators in each of the stock picks: good managements and the ability to grow reserves, production, earnings and cash flow in line with-or exceeding-investor expectations. (Editor's note: Except for U.S. oil and gas prices, all dollar amounts expressed are Canadian. Recently, US$1 equaled C$1.45. Also, at press time, Peters & Co. was revising upward its 2000 and 2001 earnings and cash flow estimates for its top upstream stock picks.) Investor Wilf, among the senior producers, you like Talisman Energy Inc. What's the attraction? Gobert One of Canada's largest international producers, Talisman has seen volatility in its stock price lately because of criticism that the company operates in Sudan, where there has been a history of civil rights abuses. However, this is the region that will account for much of the company's gains this year in oil-production volumes. At the same time, Talisman has made a very strong push on natural gas output throughout western Canada. For 2000, we're looking for total daily production to be up about 20% over last year, to 233,000 barrels of oil and 1 billion cubic feet of gas. Assuming only US$20 oil and C$3 gas, we're projecting cash flow this year of $11.25 per share, rising to $12.50 in 2001, as earnings grow from $1.30 per share to $1.55. Our 12-month stock-price target is $55 per share. Inglis I agree with Wilf. Talisman is going to realize substantial production growth this year-as much as 52% on the oil side versus last year-mostly from Sudan. On the natural gas side, volumes should be up modestly in 2000-about 12%-as the result of drilling results in Indonesia, the North Sea and Canada. Talisman has gotten a foothold in Sudan early on in the development of that region, and its upside from further exploration is very meaningful. I wouldn't be surprised to see the company's oil production there double over the next three years, to about 70,000 net barrels per day. Our stock-price target is $60. I'd add that, among the integrated oils, our top pick is Petro-Canada. Historically, this stock has been the most cheaply valued of the integrateds, primarily due to its lack of a defined growth strategy. However, with the recent appointment of 30-year ExxonMobil veteran Ron Breneman as president, Petro-Canada should become a dominant player internationally. Up to now, the company's focus has been western Canada, and the Hibernia and Terra Nova projects offshore eastern Canada. Now, it's likely to become involved in some of the more interesting exploration areas such as West Africa, or closer to home, Canada's frontier MacKenzie Delta area. In the shorter term, the stock should become more attractive as its refining margins become exceptionally strong in second-quarter 2000. For fiscal 2000, we see Petro-Canada's earnings doubling to $1.71 per share from 86 cents last year, as cash flow grows to $5.35 per share from $3.52. The company is also positioned for good earnings growth in 2001. With Terra Nova coming on stream, that adds 30,000 barrels per day to its current overall daily oil output of 100,000 barrels. Also, with 735 million cubic feet per day of Canadian gas production, the company should be a major beneficiary of improving prices for that commodity. Our stock-price target is $33. Investor Peter, what are your top picks? Linder The first is Alberta Energy Co. Ltd., which has by far the best asset base of all the seniors. It is the largest gas producer in western Canada, as well as a major participant in significant heavy oil projects. It is also the second-largest shareholder in Syncrude, a large synthetic light-oil operation, and a major player in the Canadian midstream. In addition, the company over the past 18 months completed two brilliant hostile takeovers-those of Amber Resources and Pacalta Energy-which gave it further exposure to heavy oil development in Alberta and an immediate presence in Ecuador. All this ensures visible growth for the next three to five years, in terms of production, cash flow and earnings. We're looking for fully diluted cash flow to be up 50% this year over last, to $10.25 per share, while earnings double to $3 per share. Our 12-month target is $60. Among senior producers with market caps higher than $2 billion, Anderson Exploration Ltd. is the most weighted to the rapidly improving price outlook for natural gas. Of its total gas production, more than 80% is exposed to western Canada spot prices. Also, none of its oil output is hedged. Over the past year, Anderson has become much more aggressive, in terms of drilling deeper gas wells in the Alberta Foothills and the Northwest Territories. It'll drill 19 this year versus only five last year. The company also has a large and expanding presence in the Yukon and MacKenzie Delta frontier areas, which give it further exposure to natural gas. After showing no production growth in 1999, Anderson's total output this year should increase 5% to 10%. In line with this, I see fully diluted cash flow rising 60% in 2000, to $5 per share, while earnings triple, to $1.50 per share. My target price for the stock is $28. Investor Why the disproportionate jumps in cash flow and earnings versus the more modest gains in output? Linder Anderson's increased production this year is going to benefit significantly from much higher oil and gas prices. Investor Andrew, you and the other three analysts have a Buy on Canadian Natural Resources Ltd. What's the fascination? Hogg It's an extremely well-run senior with a large inventory of prospects that can help it grow well into the start of this millennium. With a reserve base that's 50% oil, this company has good exposure to improving crude prices. It should do extremely well in the last half of 2000, as it brings on additional heavy oil production from assets it recently bought from BP Amoco Canada at Primrose, Bonnyville, Wabiskaw and Nippisi in northern Alberta, as well as from its nearby Pelican Lake heavy oil properties. We see daily production increasing 35% in 2000, to 215,000 equivalent barrels of oil. Meanwhile, cash flow should climb from $6.46 per fully diluted share in 1999 to $10.35 this year, as earnings rise from $1.93 to $3.84. Investor Why the very strong jumps in expected earnings and cash flow? Hogg Besides benefiting from improving oil prices, the company's increasing heavy oil production commands an extremely high netback. Also, since CNQ used mostly debt rather than equity to acquire BP Amoco Canada's heavy oil assets, more cash and earnings flow down to each share. Our target price for the stock is $50. Inglis What's going to cause CNQ's stock to perform well over the next four or five years is very visible growth in heavy oil production. We're looking for a 57% growth in daily oil output this year, to 136,500 barrels, and for another jump in production next year, to more than 160,000 barrels per day. Currently trading at 12 times our estimated 2000 earnings, we view the stock as cheap. We think that over the next five years its earnings can double. Our 12-month target is $55. Gobert For CNQ, which has been a top-quartile growth company in the Canadian oil patch for the past 10 years, we're looking for a more modest 20% jump in production this year. The big story here, however, is the company's $1-billion acquisition late last year of BP Amoco Canada's heavy oil assets. It has really given CNQ a platform for sustained top-quartile growth going forward. The beauty of heavy oil production in Canada is that it tends to have very low finding costs and very high netbacks. That can result in returns on capital employed of 15% to 20%-or higher. Our target price for the stock is also $55. Linder I agree with Wilf. Given where current oil prices are, CNQ's development of the BP Amoco Canada assets-and its other major heavy oil properties-is really a license to print money. That's because the return on heavy oil production is fantastic. Canadian Natural is currently netting, after all cash costs, more than C$25 per barrel. This means that its economic recycle ratio-its cash flow per barrel divided by its finding and development costs-is more than 10. Also, as part of the package from BP Amoco Canada, CNQ got (for well under $50 million) significant tar sand leases at Micmac in northern Alberta. These assets, if sold today, have a value of more than $150 million. Our target price for the stock is $60. Investor Andrew, you also have a Buy on Canadian Hunter Exploration Ltd. What's the story here? Hogg With a reserve base that's 80% gas, this operator offers the best exposure to rising gas prices that an investor can get among senior producers with market caps under $2 billion. The company, whose properties are located primarily along the Foothills corridor in Northeast British Columbia and Alberta, has shown it's an excellent explorationist, with major discoveries last year at Kaybob and Lethbridge in Alberta. It has shown that it's willing to use its under-levered balance sheet to aggressively make acquisitions. Earlier this year, the company bought an Argentine gas producer. Over the next three to five years, we expect the company to grow international production to about 20% of companywide output. What I also like about Canadian Hunter is that it has beaten market estimates every single quarter since it went public in late 1998. Our 2000 forecast calls for average daily production to grow 22%, to 53,500 equivalent barrels of oil. Cash flow, meanwhile, should grow 42%, to $5.61 per share, as the result of rising gas prices, while earnings increase 77%, to $2.04 per share. Our stock-price target: $32.50. Inglis I agree with Andrew. Canadian Hunter is one of the most successful deep-gas exploration companies in western Canada, as witnessed by its three, 30-MMcf-per-day gas finds it announced last year in the Colt area of northwestern Alberta. The company has also generated extremely high returns on capital employed-13% after-tax in 1999, which is double the industry average. Meanwhile, it trades at only 4.4 times estimated 2000 cash flow-more in line with the average multiple for the industry. For 2000, we see 19% growth in daily gas production, to 425 million cubic feet, and about 10% growth in daily oil production, to 9,000 barrels. Our stock price target is $35. Investor Wilf, among intermediate oils, you like Baytex Energy Ltd. Why? Gobert Baytex is a turnaround story. A few years ago, this heavily oil-focused company was over-leveraged. Since then, Baytex, operating in Alberta and western Saskatchewan, has done an excellent job of fixing its balance sheet, reducing its costs, and now-with the improved economics for heavy oil production-is growing with a high return on capital employed. This year, we're looking for 35% growth in production, to 13,000 barrels per day of liquids and 80 million cubic feet per day of natural gas. In line with this, we see cash flow this year of $3 per share, rising to $3.60 in 2001, as earnings grow from $1 per share to $1.25. Our stock-price target is $16. Investor Andrew, among Canadian intermediates, you like Cypress Energy Inc. Hogg Yes. Since mid-1996, Cypress has grown its two-thirds natural gas production very rapidly, to about 11,500 equivalent barrels per day, as the result of making good acquisitions in Alberta and exploiting those properties. However, what we've been looking for in this producer is an ability to generate growth from exploration, as well. Recently, it has done this, with big discoveries in the Dawson and Hotchkiss areas in northern Alberta-and we now see repeatability of these exploration successes in other prospect areas. In 2000, we expect Cypress to increase production 41%, to 12,000 BOE per day. Concurrently, cash flow should grow from $1.04 per share in 1999 to $1.50 this year, as earnings rise from 19 cents to 34 cents. Our target: $9. Investor Do you see this producer as a takeover candidate? Hogg No. They'd be a buyer, not a seller. Investor Scott, which junior producers do you like? Inglis One is Petromet Resources Ltd., a $160-million market cap producer. It's not only a natural gas exploration story, but also a turnaround story. Prior to new management taking over two years ago, Petromet didn't have a great track record in deep-gas drilling in Alberta. However, for a company its size, it did have a large, undeveloped land position in prospect areas that have now turned out to be some of the hottest gas exploration plays in Alberta. In the Foothills region, the company has a significant land block in a new discovery area, Grand Cache. It is also involved with Canadian Hunter in a Devonian gas discovery near Bigstone. In both these plays, wells tend to produce at 20- to 30 MMcf per day-which is meaningful for PNT. We see a 33% growth in Petromet's daily gas production this year, to 68 million cubic feet, and a further rise in gas output in 2001, to 85 MMcf per day. Cash flow should also move up 33% this year, to $1 per share, as earnings climb to 22 cents per share. Our stock-price target is $5.25. Investor Do you think Petromet is a potential takeover target? Inglis Due to the lack of market interest in the junior sector, investors in PNT are getting a lot of high-impact exploration for free. That fact alone makes the stock a logical takeover target. Investor Any other junior you like? Inglis Search Energy Corp. This $85-million market cap producer, with a debt/cash flow ratio of less than one, is again a natural gas exploration story. Recently, it was involved 50/50 with Union Pacific Resources in a high profile gas discovery in Northeast British Columbia. The Klua discovery well tested at about 25 MMcf per day, and it looks like the prospect has gas-reserve potential of 100 Bcf. This find is again very meaningful, given that Search's current gas production base is only 23 MMcf per day. The exciting thing is that the company has another eight to 10 wells to drill on this prospect. So even on a risked basis, we see Search's daily gas production growing from 16 million cubic feet in 1999 to 30 MMcf per day in 2000, to 45 MMcf per day in 2001. Meanwhile, cash flow should grow from 27 cents per share to 53 cents, to 65 cents, as earnings rise from 10 cents per share to 17 cents, to 25 cents. Our stock-price target: $2.75. Investor Might Search also be a takeover target? Inglis It could. Union Pacific would certainly be a logical buyer of it, but also 20% of Search's stock is currently held by Petro-Canada. Investor Peter, among junior oils, what's your top pick? Linder The best-performing stock in the TSE 300 in 1998, and one of the top performers in that group again in 1999, Bonavista Petroleum Ltd. is easily the best-quality junior producer today in the Canadian oil patch. Virtually 100% weighted to natural gas from operations in Alberta and Saskatchewan, it has the best management team of any company its size. Since that team took control of the company about 30 months ago, the company has never failed investors, in terms of meeting production targets and delivering very low-cost growth. As a result, the stock is currently trading at close to eight times our estimated 2000 cash flow-more than double the multiple at which its peer group trades. In summary, here's a producer that has quadrupled its share price in the past 30 months, and I see another 25%-30% upside in the stock over the next 12 months. My target price for BNP is $25. Gobert Bonavista ranks among the top 10% of Canadian producers, in terms of being a low-cost operator, and is one of the top five Canadian producers, in terms of volume growth. In addition, its chief executive officer, Keith MacPhail, used to be chief operating officer at CNQ. So it has strong management expertise. In 2000, we're looking for 40% production volume growth, to 1,200 barrels per day of liquids and 108 million cubic feet per day of gas. Meanwhile, we're forecasting cash flow this year of $2.60 per share, rising to $3.20 in 2001, as earnings climb from 90 cents per share to $1.10. Our stock-price target is also $25. Investor Peter, any other juniors you like? Linder Genesis Exploration Ltd. This producer, which has significant natural gas exposure and low-cost oil development in Alberta and Saskatchewan, is somewhat similar to Bonavista. It has an excellent growth profile and has never disappointed investors, in terms of meeting all its targeted production, earnings and cash flow goals. In addition, it's well managed, with a very strong technical team, and has made numerous, astute property acquisitions-the last one being an oil development prospect at Sturgeon Lake in Alberta I see this company's cash flow virtually doubling this year, to $2.35 per share, while earnings also double, to about $1 per share. My 12-month target price is $13. Gobert The big play for Genesis right now is Sturgeon Lake, where it has a major, high-tech exploitation program under way to increase recoverable reserves from known pools of oil. The company, which ranks in the top quartile of Canadian producers in terms of volume growth and low finding and development costs, is also using 3-D seismic and horizontal drilling at Sturgeon Lake to explore for and capture attic oil at the tops of formations. This year, we're looking for Genesis to achieve 27% production-volume growth, to 6,200 barrels per day of liquids and 93 million cubic feet per day of gas. In line with this, 2000 cash flow should be $2.20 per share, moving up to $2.45 in 2001, while earnings rise from 80 cents per share to 90 cents. Our stock-price target is $15. Investor Any other Canadian junior you like? Gobert Ionic Energy Inc. This company, whose asset base is 90% natural gas, operates exclusively in Alberta, with significant drilling operations at Blue Ridge, just west of Edmonton. Again, Ionic ranks in the top 10% of Canadian producers, in terms of volume growth and low operating costs. In addition, the company has a strong balance sheet. Its debt/cash flow ratio this year will be just 1.2. So Ionic has the ability to be very acquisitive, if it wants, without diluting the shareholder. We're looking for Ionic, which has a market cap less than $100 million, to achieve 25% production-volume growth this year, to 350 barrels per day of liquids and 27 million cubic feet per day of gas. Meanwhile, 2000 cash flow should be 65 cents per share, rising to 75 cents next year, as earnings increase from 25 cents per share to 30 cents. Our target is $5.10. Investor Andrew, what's your favorite among the juniors? Hogg TriGas Exploration Inc. This $50-million market cap producer, which is about 90% leveraged to natural gas, has shown extremely strong, focused growth in the Irricana-Lone Pine-Acme area just northwest of Calgary. Daily production from this deep-gas region, where TriGas has interests in 185 contiguous sections of land, has risen from about 11 million cubic feet equivalent at the start of 1999 to around 20 MMcfe currently. Through its horizontal drilling program there, we expect TriGas to grow daily output this year by 125%, to 37 MMcfe. Meanwhile, benefitting from rising gas prices, cash flow should jump from 20 cents per share in 1999 to 63 cents, as earnings soar from 4 cents per share to 23 cents. Investor Is this an undervalued stock? Hogg Right now, the stock is trading at only 2.2 times this year's projected cash flow versus an average multiple of 3.4 for its peer group. My feeling is that, if the stock doesn't move up soon, it's going to show up on someone's radar screen as a potential takeover candidate. Our stock-price target is $3.25.