This Permian Basin Driller's Stock Leapt 47% in 2016. Is There Any Fuel Left for 2017?

By Matthew DiLallo Markets Fool.com

Image source: Getty Images.

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Concho Resources (NYSE: CXO) spent the better part of the oil market downturn enhancing its portfolio and driving down costs so it could excel when conditions improved. If last year's stock price performance is any indication, the company succeeded in these goals:

CXO data by YCharts.

As a result of that performance, the stock ended the year a mere 3% below its all-time high, despite the fact that crude prices were more than 50% below their prior peak. That said, because the company has repositioned to such a degree that it can thrive at current oil prices, it suggests the stock could continue rising in 2017 as long as crude prices don't fall off a cliff.

What went right in 2016?

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Like most oil companies, Conoco Resources took a cautious approach early on in 2016, cutting its capex budget back to $1.1 billion-$1.3 billion, which matched its expected cash flows. That spending level would be enough to keep production flat-to-down 5% compared to the prior year.

However, the company would then go on to complete several strategic transactions to high-grade its portfolio and enhance its ability to grow at lower oil prices. In mid-January, the company completed a series of deals aimed at strengthening its Southern Delaware Basin position, acquiring 12,000 net acres near its core North Harpoon prospect for $360 million and selling 14,000 acres of lower return land for $290 million. The company also completed an acreage exchange with Clayton Williams Energy (NYSE: CWEI), consolidating 21,000 net non-operated acres into a consolidated position. These deals enabled Concho to expand its acreage in core areas so it could drill longer wells, which is one of the keys to earning higher drilling returns.

Concho Resources would go on to complete two more significant acquisitions last year, spending $1.625 billion to acquire 40,000 acres in the Midland Basin, and then forking over another $430 million for 16,400 acres in the Delaware Basin. The company paid a hefty price of more than $35,000 per acre for this land, which was at the high end of where Permian acreage traded at last year. However, these transactions put the company on pace to grow its output 5% last year while positioning it to accelerate in 2017.

Image source: Getty Images.

What to expect in 2017?

Concho Resources' focus this year is to ramp up production, with the company projecting that output will increase 18% to 21% in 2017 while living within expected cash flow at current oil prices. That's well above the double-digit growth rate it hoped to achieve before going on a land-buying spree last year. Further, Concho believes it can grow output by at least a 20% compound annual growth rate through 2020 while staying within cash flow.

That said, it's entirely possible Concho Resources can exceed these expectations. Driving that view is the company's recent announcement that it sold its interest in the Alpha Crude Connector system in the Northern Delaware Basin to Plains All American Pipeline (NYSE: PAA) for about $800 million in net proceeds. That deal will accomplish two goals. First, it secured a partner in Plains All American Pipeline that intends to make additional investments in the system to enhance Concho's market access and support its development in the region. Second, the deal provides Concho with cash it could use to accelerate growth either through the drill bit, or via additional acreage acquisitions.

Given its desire to live within cash flow, Concho will likely use the money to make another purchase. That said, it faces still competition thanks to the intensifying interest in the region. For example, Clayton Williams Energy recently agreed to a $2.7 billion takeover bid, which works out to roughly $45,000 per acre. Meanwhile, Permian peers' SM Energy (NYSE: SM) and RSP Permian (NYSE: RSPP) spent a combined $4 billion to buy land late last year. In SM Energy's case, it paid roughly $45,000 per acre, while RSP Permian spent a stunning $58,500 per acre. However, if Concho can avoid overpaying for a needle-moving deal, it could be just the ticket to send the stock on another big run in 2017.

Investor takeaway

Concho Resources has two things going for it right now. First, it has a prime position in the oil-rich Permian Basin, which should fuel 20% oil production growth this year. Further, it has a high stock price and plenty of cash, which it can use to enhance its ability to grow. Because of that, Concho should deliver robust production and profit growth this year as long as oil prices cooperate, which could fuel further gains in its stock price.

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Matt DiLallo has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.