CNX Resources Stock: This Natural Gas Producer Looks Cheap

CNX Resources Corporation (NYSE:CNX) is an independent exploration and production company that focuses on the production of natural gas in the Appalachian Basin. This is a basin that receives surprisingly little coverage in the American media compared to the Permian, which is surprising since Appalachia is actually richer in natural gas resources and the fundamentals of natural gas are much better than those for crude oil.

With that said, natural gas prices have been somewhat weak over the past month or two, which is due mostly to the winter being warmer than normal. Indeed, I have been able to actually spend my weekends outdoors without bundling up and I do not live in a particularly warm state! The long-term fundamentals are much better, though, and this could ultimately benefit CNX Resources. Fortunately, CNX Resources offers a rather attractive proposition to investors looking to take advantage of this due to the company’s low-cost structure and incredibly attractive valuation today.

About CNX Resources

As stated in the introduction, CNX Resources Corporation is an independent exploration and production company that focuses on the production of natural gas in the Appalachian region.

This is generally a good place for a natural gas producer to operate due to the incredible resource wealth of the region. The Marcellus Shale, which is the primary basin in the region, is considered to be the biggest source of natural gas in the United States, with an estimated 42.954 trillion to 144.145 trillion cubic feet of natural gas in place. This is substantially more than the nineteen trillion cubic feet of natural gas that the Permian Basin of West Texas is believed to contain.

This incredible wealth of the region reflects itself in CNX Resources’ reserves. As of December 31, 2021 (the most current date for which data is currently available), CNX Resources had proved reserves of 9.6 trillion cubic feet of natural gas equivalent, approximately 93.4% of which is natural gas. This is nice to see because of the importance of an energy company’s reserves.

Admittedly, investors frequently overlook this fundamental of the business, but it is critically important due to the fact that the production of natural gas is an extractive process. CNX Resources literally obtains the products that it sells by extracting them from reservoirs contained in the ground. These reservoirs only contain a finite quantity of natural gas, so the company must discover or otherwise acquire new sources of resources or it will eventually run out of products to sell. The company is by no means guaranteed to be successful in this endeavor, so its reserves dictate how long it can continue to operate without success.

During the third quarter of 2022, CNX Resources produced a total of 146.4 billion cubic feet of natural gas equivalent. Thus, its reserves are sufficient to allow it to produce for 65 quarters, which works out to just over sixteen years. This is a very long reserve life that is substantially longer than the major integrated companies and even longer than most independent shale producers. Thus, we do not need to concern ourselves with the company’s long-term viability.

As most people reading this are likely well aware, 2022 was generally a strong year for natural gas, as prices went up substantially during the first half of the year in response to the Russian invasion of Ukraine. Unfortunately, they have been decreasing lately and are down 15.73% over the past twelve months:

This has certainly had an impact on CNX Resources’ stock price. The stock is up 7.07% over the past year, but it is currently hovering well below its 52-week high:

Fortunately, though, the company’s financial performance is somewhat better than may be expected from looking at the stock price. One of the reasons for this is that the company’s acreage in the basin is fairly high quality, which allows it to produce natural gas for a very low price. During the third quarter, CNX Resources had an average production cost of $1.29 per thousand cubic feet of natural gas equivalent produced and expects to average $1.19 per thousand cubic feet of natural gas equivalent produced over the course of 2022. Despite the decline in natural gas prices, this is still substantially lower than the price of natural gas.

This has allowed the company to generate positive free cash flow, which is something that is quite nice because this is the money that allows the company to do things that benefit the shareholders such as buying back stock, repaying debt, or paying a dividend. There are some questions about exactly what the company’s free cash flow is, however. CNX Resources claims that it had a positive free cash flow of $135 million during the third quarter. However, the formula for free cash flow is operating cash flow minus capital expenditures, and that gives $130.8 million for the third quarter. The company does not provide a definition of how its calculation differs from the standard definition of free cash flow so it is likely that the company is including or excluding a few minor things somewhere in its calculations.

Either way, the difference is not big enough to change our thesis about CNX Resources generating a copious amount of free cash flow. This has been particularly true this year, as the company has now generated an estimated $700 million cumulative free cash flow since the first quarter of 2020:

The company has been using this money to reward its investors, although it is unfortunately not paying out a dividend like many of its peers. It has been buying back its stock, however. During the first three quarters of 2022, CNX Resources repurchased 24.0 million shares of its own stock. This gives it a total of 46.2 million shares repurchased since the third quarter of 2020:

It is uncertain how many shares the company repurchased during the fourth quarter as it has not yet provided a figure. It does seem likely that CNX Resources continued to do so, however. While a share buyback is nice, I will admit, though, that I would much prefer to see a dividend. This is because share buybacks do not always work. As we saw earlier, CNX Resources has delivered a somewhat poor performance in the market over the past year despite the share buyback. In fact, the company’s stock has been essentially flat over the past six months, so shareholders have gotten no reward at all. If the company had spent some of the money that it devoted to this program on a dividend, then at least shareholders would have received something and would have a reason to be holding the stock over that period.

CNX Resources has also been using some of its free cash flow to reduce its debt. This is something that is quite nice because its debt load has long been one of my biggest concerns about this company. The majority of its debt reduction came in 2021 however, not in 2022. In fact, the company has only reduced its net debt by $50 million in 2022. This is significantly less than the $208 million reduction in 2021:

This has certainly had a positive effect on the company’s financial strength but unfortunately, it does still have a way to go. We will discuss this more later in this article. The takeaway at this point is simply that CNX Resources Corporation will need to keep working on this over the coming quarters, but it has already made some very good progress.

Fundamentals Of Natural Gas

As I stated in the introduction, the fundamentals for natural gas are fairly strong. This is a good thing for CNX Resources, considering that 93.4% of its reserves are natural gas as opposed to liquid hydrocarbons. The biggest reason for these strong fundamentals is the growing demand for natural gas from the utility sector, which I discussed in a recent blog post.

As everyone reading this is no doubt well aware, many governments around the world have been encouraging their utilities to adopt renewable sources of power in an effort to reduce carbon emissions. The United States is no exception to this, as wind and solar now generate about 14% of the electricity consumed in the country, a sharp increase from the 3% that these sources generated back in 2008:

We can also see that natural gas consumption by electric utilities increased substantially over the same period. In 2008, natural gas generated 21% of the electricity consumed in the United States but today it accounts for fully 38% of power generation. We can see similar trends in just about every other developed nation around the world. It is caused by the fact that renewable sources of power are unreliable. After all, wind power does not work when the air is still and solar power does not work at night. Current battery technologies are insufficient to overcome this problem, so many utilities have been deploying natural gas turbines as a supplement to renewables in order to ensure that the electric grid maintains the “always-on” capacity that people expect in today’s world.

Another major problem with renewables is that they are not economically competitive with natural gas. According to the U.S. Energy Information Administration, it costs about $37 per megawatt-hour to produce electricity with natural gas. This compares very favorably to the $59 per megawatt-hour cost to produce electricity with photovoltaic cells:

We have already seen in 2022 how many problems rising energy costs inflict on the average American family. If the nation were to attempt to shift away from natural gas to solar and wind power, it would further increase electricity costs by quite a lot. It is rather unlikely that very many people will be willing to see their bills increase to the degree that would be needed to fully move away from natural gas as a primary source of power for electric generation.

These two reasons are among the factors that contribute to the International Energy Administration projecting that the global demand for natural gas will increase by 29% over the next twenty years. It should be fairly easy to see how CNX Resources will benefit from this. The United States is one of the only nations in the world that is capable of increasing its production of natural gas to satisfy this demand due to the wealth of regions like Appalachia, where CNX Resources is a major player. We are already starting to see the United States turn into an exporter of natural gas due to the development of various liquefied natural gas plants around the nation:

As we can clearly see, the demand for natural gas from these new facilities is likely to at least double over the next five years. CNX Resources will be among the companies that would be meeting this demand.

Financial Considerations

It is always critical that we analyze the way that a company finances its operations before making an investment in it. This is because debt is a riskier way to finance a company than equity because debt must be repaid at maturity. This is typically accomplished by issuing new debt to raise the money to repay the maturing debt. A company’s interest expenses may increase following the rollover depending on the conditions in the market.

In addition to this risk, a company must make regular payments on its debt if it is to remain solvent. Thus, an event that causes a company’s cash flows to decline may have the effect of pushing it into insolvency if it has too much debt. This is something that could be an especially big concern with a company like CNX Resources due to the volatility of commodity prices.

One metric that we can use to evaluate a company’s financial structure is the net debt-to-equity ratio. This ratio tells us the degree to which a company is financing its operations with debt as opposed to wholly-owned funds. It also tells us how well a company’s equity can cover its debt obligations in the event of bankruptcy or liquidation, which is arguably more important.

As of September 30, 2022, CNX Resources had a net debt of $2.4391 billion compared to $1.977 billion of shareholders’ equity. This gives the company a net debt-to-equity ratio of 1.23 today. Here is how that compares to some of the company’s peers:

Company	Net Debt-to-Equity Ratio
CNX Resources	1.23
Range Resources (RRC)	1.04
Antero Resources (AR)	0.73
EQT Corporation (EQT)	0.48
Comstock Resources (CRK)	1.29

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As we can see, CNX Resources is more levered than many of its peers, which is relatively in line with the statements that I made earlier about the company’s debt load remaining a significant concern. However, the company is admittedly not the most heavily levered on this list. As we have already discussed too, the company’s management does realize that its debt load is a cause for concern and as such, it has been focused on reducing it.

With that said, a company’s ability to carry its debt is more important than the actual amount of debt in its financial structure. The usual way that we judge this is by looking at the company’s leverage ratio, which CNX Resources defines as net debt-to-free cash flow. This ratio essentially tells us how many years it would take the company to completely pay off its debt if it were to devote all of its free cash flow to that task.

As of right now, CNX Resources has a leverage ratio of 1.7x based on its trailing twelve-month free cash flow. The company expects to get this down to 1.5x when its fourth quarter results are released but given the fall in natural gas price prices that occurred during that quarter, there is no guarantee that it will be successful. Regardless, this ratio is a bit high considering that many of the company’s best-financed peers have ratios that are less than 1.0x at this point in time. It would be nice to see CNX Resources target that ratio as its long-term target.

The company has unfortunately not stated what exactly it wants its leverage ratio to be, but we can infer that it wants to reduce it based on the fact that the company continues to pay down debt but has not yet implemented a dividend. As the ratio is still rather high, we will want to keep an eye on it going forward in order to monitor our risk.

Valuation

As is the case with most traditional energy companies today, CNX Resources Corporation has an incredibly attractive valuation. We can see this quite clearly by looking at the company’s price-to-earnings growth ratio, which is a modified form of the traditional price-to-earnings ratio that takes a company’s forward earnings per share growth into account. A price-to-earnings growth ratio of less than 1.0 is an indication that the stock may be undervalued based on the company’s forward earnings per share growth and vice versa. However, right now pretty much everything in the traditional energy industry looks dramatically undervalued based on this ratio. As such, it would be best for us to compare CNX Resources against its peers in order to see which company offers the most attractive relative valuation.

According to Zacks Investment Research, CNX Resources Corporation will grow its earnings per share at a 20.72% rate over the next three to five years. This gives the company a price-to-earnings growth ratio of 0.31 at the current price. Here is how that compares to the company’s peer group:

Company	PEG Ratio
CNX Resources	0.31
Range Resources	0.21
Antero Resources	NA
EQT Corporation	0.07
Comstock Resources	NA

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As we can see, CNX Resources is incredibly cheap, but it still looks expensive relative to both Range Resources and EQT Corporation. In fact, the company’s forward earnings per share growth is pointing to a fair valuation of $54 per share, which is a substantial increase over the $16.74 per share that the company trades for today. Thus, CNX Resources Corporation stock appears to be a buy despite not being the cheapest independent natural gas producer in the market.

Conclusion

In conclusion, CNX Resources Corporation is an independent exploration and production company focused on producing natural gas in the Appalachian region. It is important to have some exposure to natural gas given the strong fundamentals relative to other energy sources, and CNX Resources is one way to get that.

Unfortunately, CNX Resources Corporation’s high debt load means that it is a bit riskier than its peers, and the company also appears to be more expensive than its peers. It is still incredibly cheap relative to its earnings growth, though, so CNX Resources Corporation could still be worth buying today.