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Why is Woodside Petroleum so cheap?

Despite announcing a strong first half result for FY13, shares in oil and gas producer Woodside Petroleum (ASX: WPL) still appears cheap given the company’s current earnings, but more importantly its significant growth potential.

Shares in Woodside are up 11% in the last 12 months, lagging 16.6% rise in the S&P/ASX 200 Index (Index: ^AXJO) (ASX: XJO) and putting the company on a price to earnings ratio (p/e) of 9.8 based on 2012 earnings.

This feels like a bargain given the long-term growth opportunities Woodside has and also by comparison to Santos (ASX: STO), which currently has a p/e ratio of 27. Santos shares have been pumped up in the last year as the company gets closer to the completing two major projects that will substantially increase cash flows.

However, Woodside still has more proven and probable (2P) oil and gas reserves than Santos and has three exploration and production ventures planned to grow these over the coming years.

Despite several delays, the Browse Basin represents the best near-term prospect. Woodside and its joint venture partners have agreed on a floating LNG (FLNG) option to extract, process and ship the natural gas.

The FLNG technology is real and viable, supported by venture partner Shell (NYSE: RDS.A) who is behind construction of the world’s first FLNG project Prelude off the coast WA.

Floating LNG technology is set to become a key competitive advantage for Woodside, whose interests in Ireland’s Porcupine Basin and Israel’s Leviathan gas field could both become potential FLNG projects if discoveries are made and it proves inefficient to pipe gas to land for onshore processing.

Foolish takeaway

The discounted price for Woodside Petroleum suggests investors are factoring in a high degree of risk for the new growth projects, which still have long lead times before first production. If Santos’ experience is anything to go by, this gap should close over time as these projects progress and investors feel more certainty around success. For patient, long-term investors this creates a unique opportunity to own part of a big energy company with growing potential at a good price.

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Motley Fool contributor Regan Pearson does not own shares in any company mentioned.

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