September 04, 2022 - 12:33pm EST by
2022 2023
Price: 17.35 EPS 0 0
Shares Out. (in M): 189 P/E 0 0
Market Cap (in $M): 3,300 P/FCF 0 0
Net Debt (in $M): 2,200 EBIT 0 0
TEV (in $M): 5,500 TEV/EBIT 0 0

Sign up for free guest access to view investment idea with a 45 days delay.

  • Natural gas


CNX Resources (CNX) is an investment opportunity where you don’t need to believe much of anything to get a double and have a chance to get much more over time.  CNX is one of the largest natural gas producers in the Appalachian Basin.  It started out as the natural gas division of what is now Consol Energy – a 150 year old coal producer in the region.   CNX participated in the explosive growth of the Appalachian Basin and became a standalone company in 2018. 


I think of CNX as a bit of an “orphan” security.   At the time of the separation, they detailed their strategy to programmatically hedge as much of their natural gas exposure as possible.  As a result, the typical oil and gas investor (or generalist) looks at their hedge book and sees the massive amount of volume hedged in the mid $2s (over 70% for 2023 and over 60% for 2024) vs $9 spot and says “what a bunch of idiots” and moves on.  

I originally owned CNX Midstream which I viewed as a cheap way to get exposure to the growth in the basin without being exposed to some of the craziness in the region.  People seem to forget that the “shale revolution” was funded by a massive investment bubble that led to growth at any cost type drilling behavior.   In the Appalachian Basin, this gold rush mentality led to growth at the limits of takeaway capacity which kept a ceiling on national natural gas pricing while creating chaos in basin (pricing approaching zero, forced shut ins, etc).   To CNX’s credit, management saw this coming and wanted no part of it.  Their view was that they had decades of drilling inventory and were the lowest cost producer (in large part because they own all their midstream assets).  The CEO tried to hammer this point home at the time of the CNX merger in 2020 (following a period of low prices):.


So if you look at the all-in cash expenditures for the entire company, you would get a per Mcfe cost of approximately $1.41, which is well below the current gas realizations we receive under the current forward strip, generating a substantial margin. And what is even more remarkable is looking at this every dollar spent cost method relative to our peers. As you may remember, we showed previously that the average cash production cost of our peers is approximately $1.37. So our everything-and-anything, all-in cash expenditures for the year on an Mcf basis are basically equal to the average cash production costs of our peers.


Let me say that one more time. Our fully, fully burdened costs are in line with our peers' operating cash cost. Once you add in interest costs, SG&A costs, other operating expense costs and the capital our peers need to spend each year to maintain flat production, our all-in cash cost per Mcf is substantially below our competitors. This cost advantage ensures that CNX can operate successfully and produce substantial free cash flow at price strips where the peers cannot afford to hold their production flat and be cash flow neutral. 

I held onto my shares after the merger and have accumulated more opportunistically, including at recent prices.  I believe that CNX is an attractive investment at current levels based on the following:


  • Undemanding valuation.  Mkt Cap of $3.3bn, net debt of $2.2bn implies TEV / EBITDAX of 3.9x at current depressed hedge pricing.

  • Conservative operating strategy.   1 rig program to maintain production level at around 1.6 BCF/d.  Midstream assets fully owned.  Relatively “easy” to increase production opportunistically if takeaway capacity opens up.

  • 2022E FCF of $700mm for current FCF yield in the low 20s.   Likely to be higher in the future based on continued opportunistic hedging leading to higher blended realizations than currently reflected in the hedge book.

  • Exceptionally focused capital allocation.

  • Possible natural gas re-rating.  Not necessary, but could be a nice kicker.  Plenty of valid reasons (especially on the supply side) why oil stocks have traded at significant premiums on a btu equivalent basis but not sure why natural gas companies won’t close the discount / re-rate given much better long term outlook.


I will discuss some of these points further below but will start with a brief overview of natural gas and the Appalachian Basin for those who aren’t familiar with some of the history / dynamics.



The US is by far the largest producer (and consumer) of natural gas in the world.  Production, however, was stagnant for about 40 years starting in the 1970s.


In the late 2000s, drilling in the Utica and Marcellus shales of the Appalachian Basin began in earnest, and this happened:



It’s hard to overstate the significance of this.  On its own, the Appalachian Basin would be the third largest producer of natural gas in the world after the rest of the US and Russia.  It also single handedly increased US production by 50%.  


As you can see below, US consumption of natural gas began to track higher as this new supply came online:


Increased consumption has been primarily driven by natural gas usage for electric power generation.  Unlike the BEV threat hanging over the oil market, the natural gas demand outlook seems much more robust.   It’s very hard to see an alternative to natural gas for baseload power generation in the foreseeable future.  While wind and solar represent the majority of new power adds each year (because they are cheaper before subsidies), natural gas plants continue to be built both for reliable baseload and peaking purposes.

The rest of the increase in natural production has been consumed by decreasing imports from Canada and, of course, exports / LNG:


In the Appalachian Basin, production growth has consistently been constrained by available takeaway capacity.  In the past, this has led to chaotic in basin pricing, shut ins and the collapse of many smaller competitors.  Numerous additional pipelines have been proposed and have failed, mostly for permitting related / NIMBY reasons.  The Mountain Valley Pipeline was 90% completed in 2019 and required Manchin to hold up the $300B IRA bill to potentially get it over the finish line.   While various new industrial users and power plants will continue to increase in basin demand, future pipeline additions look unlikely in the near term.


As a result, all of the large Appalachian Basin producers are now following some version of the CNX playbook and have cut rigs to the levels needed to maintain production while harvesting cash flows for debt paydowns, dividends or buybacks.  Current production in the region is being maintained with a third of the 2011 rig count. These changes have not only stabilized in basin dynamics but have also led to higher pricing on a national level.