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Analyst Blog

On Jun 25, 2013, we retained our Neutral recommendation on domestic energy explorer Comstock Resources Inc. (CRK - Analyst Report). Our investment thesis is supported by a Zacks Rank #3 (Hold).

Why the Reiteration?

Comstock Resources’ large acreage position in the prolific Haynesville/Bossier Shale play provides a multi-year inventory of low-risk development drilling opportunities. Supplemented with a low cost structure, Comstock remains well positioned to maintain a strong growth trajectory in the near- to medium-term. The initiation of a quarterly cash dividend will create further value for shareholders.

However, the company’s highly gas-weighted reserves/production profile, along with its geographically concentrated asset base, offset these strengths and is the key area of concern, in our view. The rise in net debt/reduction of liquidity associated with the Delaware Basin acquisition is also concerning.

Detailed Analysis

The Frisco, TX-based company’s strong acreage position in the prolific Haynesville/Bossier Shale play (80,000 net acres with a resource potential of 6 trillion cubic feet equivalent) in the East Texas and North Louisiana region provides attractive reserve-add and production growth prospects.

We believe that the recent acquisition of sizeable acreage in the Delaware Basin in West Texas from Eagle Oil & Gas Co. will offer Comstock another low risk oil-focused production growth opportunity and further drive its overall volumes.

Finally, we welcome Comstock’s last month’s announcement to start paying out shareholder dividends. We believe that the dividend start-up not only highlights Comstock’s commitment to create value for shareholders but also underlines the oil and gas finder’s confidence in its business going forward.

However, we think these factors are adequately reflected in the present valuation, leaving little room for meaningful upside from current levels. In particular, following Comstock’s debt-financed acquisition of producing properties and acreage in the Delaware Basin, we remain worried about the company’s incremental leverage and reduction of liquidity.

Additionally, continued volatility in natural gas prices have created a difficult operating environment for Comstock, which derives bulk of its reserves/production from the commodity.

Stocks That Warrant a Look

While we expect Comstock to perform in line with its peers and industry levels in the coming months and advice investors to wait for a better entry point before accumulating shares, one can look at Oasis Petroleum Inc. (OAS - Snapshot Report), Sanchez Energy Corp. (SN - Snapshot Report) and PetroQuest Energy Inc. (PQ - Snapshot Report) as good buying opportunities. These domestic upstream energy operators – sporting a Zacks Rank #1 (Strong Buy) – have solid secular growth stories with potential to rise significantly from current levels.

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