Prospects Look Good for Cash-Rich Vaalco Energy

Vaalco Energy (EGY) will report year-end results next week. Depending on how Vaalco accounts for the North Sea dry hole announced in January (.pdf warning), either 2007Q4 or 2008Q1 will bear the write-off. Regardless of the accounting, the long-term investment story is only minimally affected. At current oil prices, Vaalco is generating exceptionally strong cash flows and setting itself up to internally fund major activities in Gabon, Angola, and a new North Sea farm-in. Net cash as of the end of November was $100M ($105M cash - $5M debt), up from $75M only two months earlier.

At the current run-rate, net cash should be approaching $120M, excluding any recent capex or timing issues in the working capital accounts. Of course, cash and cash flow have not been the issues with Vaalco – reserve life has. Vaalco ended 2006 with proved reserves of 6 million barrels and annual production approaching 2 million barrels, i.e., an R/P ratio of 3x. Next week Vaalco is likely to report that because of field extensions, revisions, price increases, etc., proved reserves are unchanged at about 6M bbl, meaning that 100% of 2007 production was replaced by new proved reserves in the Etame concession at very low cost. 2P reserves (if reported) are likely to be around 12 million barrels. With Ebouri production scheduled to start later this year, additional 2P and 3P reserves will move into the 1P and 2P categories. The after-tax PV10 on the 1P proved reserves at constant prices and costs is likely to be about $145M, with after-tax PV10 on the 2P reserves in the $250M range. These are very strong values for a company with an enterprise value of barely $160M.

The bottom line: Vaalco’s strong cash flows give it the opportunity to internally fund a large and diverse capex program (Gabon, Angola, North Sea) and a stock buyback program while remaining free cash flow positive. Any reasonable level of success on the various prospects would more than reward patient shareholders in an undervalued, prospect-rich, cash-rich, and strongly cash flowing company.

Disclosure: Author has a long position in EGY

Comments

[dfloydr]

Exactly why I hold an overweighted position in Vaalco. I also like the fact that management is exceptionally candid. I have followed the company for three years or more and they have always said what they plan to do and then done what they said. (With the exception that all oil men are to be forgiven when they hit a dry hole now and then).

To date the Vaalco stock price has seemed insensitive to movements in the price of oil.

Two explanations come to mind.

First: the above article mentions the reserve situation. The old numbers would suggest that Vaalco is running out of reserves. The company does not see it that way as evidenced by the length of the lease they have for their FPSO ship. I hope that we will soon learn that there has been some improvement in reserves due to the 2007 year end studies.

Second: many investors may get a little antsy waiting for Vaalco's game plan to play out but Vaalco wastes no time spreading press releases around to pump up investor enthusiasm. They are a heads down, do the job, crowd.