I submitted West Energy back in the good ole’ days of 2006
before oil really took off. It was a
very different animal at that time. The alleged
value back then was based on the pure exposure to their hot, highly prospective
core landbase. I showed that other junior
explorers and even large independents, were paying up for access that West had established
long before it became known. The stock
did good for a year or so despite other E&Ps and oil prices remaining
flat. However, management over promised and
under delivered during the great uptrend in commodity prices of 2007 through
mid 2008. The stock was shunned. Now it is nearly 50% lower (not adjusting for
currency). There were numerous
legitimate operational excuses. They are
still being plagued by a variety of minor things that helped fuel the sell off. That leads us to the present: It is officially a bottom-of-the-barrel,
discount value play. You are not paying
for growth or speculating on high oil prices yet it still has all those great
prospects. When you buy the stock at
today’s price, all you pay for is their cash and a sliver (~1/3) of their
So, like I said, there is no shortage of resource companies on
sale now but this one is special because of the capital structure. Few imagined a commodity selloff as steep and
fast as the one that is occurring. Scared
investors are focusing on balance sheets as survival now becomes a
question. In this environment, West is
an especially rare find because they have no funding or liquidity issues. They are sitting on $76 million (nearly 1/2
their market cap) with no debt. They can
use it any way they see fit. There is no
“burn rate” of the cash because they are bringing in record amounts of cash
from operations. They are nearly bringing
in enough operating cashflow to support their aggressive capex. This cash isn’t earmarked for a plant
expansion. In today’s environment, they
are actually a source of funding.
The $2.18 share price buys you:
$.92 worth of cash
$3.22 worth of reserves
= $4.14 per share
price deck used in the $3.22 per share reserve NPV calculation
crude futures $US/barrel, December month
% of 12/31/2007price deck
The current spot price for oil (cad $65.57 for Edmonton)
is off significantly from the 12/31/2007
price deck projection for 2008 ($92).
However, YTD Edmonton has averaged $111/barrel.
For years beyond 2008, the price deck they used isn’t much
different than current oil price projections derived from NYMEX futures. Depending on how you project the Canadian
dollar, it could even make the NPV of reserves even higher.
There’s no easy way to adjust the NPV of reserves for the different
price assumptions. I'm attempting to show that the price deck isn't that much different from the futures, so effectively the reserves are worth the same now as they were at the end of the 2007. However, you can slice the 12/31/2007 reserve value in half and
it’s still a good deal at the current share price.
Sometimes people look at the juniors on a enterprise
value per flowing barrel basis since that eliminates the commodity price. At the current share price, you’re paying $20k
per flowing barrel of oil for West. That
is very much on the low side for a Canadian junior. The average EV per flowing barrel at the end
of Q2 was $56k.
they blow the cash unwisely? They
mention acquisitions as a possibility, and even say they are looking, but I
judge it to be remote possibility. In
West’s history as a company they have never actually made an acquisition,
despite having had the ability by sporting a premium multiple. They are not a roll-up, growth by acquisition
type of company. They are one of an
elite few Canadian junior explorers that pride themselves on their growth by
the drill bit, and have stayed true to that idea not just talked it. If they do actually go forward and make an
acquisition, it would be their first ever and I would expect this acquisition
to be carefully chosen. Furthermore, I
can pretty safely say that this is not the peak of investor exuberance in the
energy sector (as maybe 2005-2006 was?).
Any hypothetical acquisition they do make, even if they did it with
their eyes closed, would likely turn out OK in this market given the carnage in
Asset Backed Commercial Paper (ABCP)
– In calculating the cash, $16 million of the $76 million is asset backed
commercial paper that has been frozen.
This $16 million is basically the proposed bank settlement value after a
$14 million haircut ($30 million face value).
Acquiring West is a slick way to raise capital for another
E&P with a weak balance sheet. For
example, Crew Energy is a larger E&P that makes acquisitions. It is involved in a very exciting resource
play along with West, called the Montney Shale (Shell Canada recently purchased
Duvernay for an outrageous premium to get access to this Montney resource play,
but this idea is not about “future potential prospects” since we’re certainly not
paying for them). Currently, Crew trades
at $5/share and produces about 11,500 barrels/day. It has $231 million in debt. That debt load is arguably on the high side
for Crew. An acquisition of West at double their current share price,
paid for with Crew shares, would result in a NewCrew with a much safer debt
level (under 1x annual cashflow vs. 2x annual cashflow currently). No one used to care about stuff like this… it
used to be all about production and cashflow.
Even better, I believe West is answering the phone and talking
mergers. In July, as oil was spiking,
they ended a “strategic review” period. They had a significant exploration discovery,
and given the outlook for commodities, felt that they couldn’t get a fair price. They chose to go on with business as usual. That was before the recent market disruption
and oil price drop. The world has
changed drastically since then. In the
past, acquisitions were measured based on accretitive cashflow or sometimes land
prospects. Liquidity, financing and debt
was a non-issue. The turbulence in the market
has caused a shift in preference from income statement to balance sheet. Survival matters now. This makes West a hot item.
Insider Buys. Insiders
have been buying in July and October.