Yangarra Resources Forecasts 40% Growth Rate

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About: Yangarra Resources Ltd. (YGRAF), Includes: BTE, CRC, CVE
by: Long Player
Summary

Enterprise value is now about 3.5 times cash flow.

Management forecasts about 40% production growth.

At WTI $50, the wells drilled have a more than 100% return.

Reserve value per share far exceeds the current stock price.

This company has been relatively untouched by many Canadian challenges.

Little Yangarra Resources (OTCPK:YGRAF) has suffered little of the Canadian problems. Production has rolled forward while the company has received decent prices for that production. That did not stop the stock from being tossed in the Canadian natural resource trash bin. That trash bin, though, is loaded with investment opportunities for investors that know what they are looking for.

Source: Seeking Alpha Website February 23, 2019

Despite some rapid growth, the stock price has gone in the opposite direction as the market focuses on the headlines rather than individual results. This company reported some decent fourth-quarter results and a very upbeat budget for next year.

(Canadian Dollars Unless Otherwise Noted)

Source: Yangarra Resources Fourth Quarter, 2018 Earnings Press Release

The low costs enabled decent cash flow even when pricing was temporarily impacted by fourth-quarter issues. Funds flow from operations was C$17 million, or C$.20 per share, and the company reported a profit even with the lower selling prices. The larger and better known competitors such as Cenovus Energy (CVE) and Baytex Energy (BTE) reported losses.

The reduced cash flow easily handled the net debt of C$155 million. In fact, the banks have been steadily increasing the lending commitment to this company right through all the Canadian issues. That is because the very low costs shown above have enabled decent cash flow for this fast growing company even as the sale prices gyrated furiously due to the Canadian challenges.

Current Market Valuation And Well Economics

You would never know this from the attitude of Mr. Market. Something has to give here and it will most likely be the stock price. As production continues to rapidly grow, the market will revalue this stock to far more reasonable levels. Takeaway issues have diminished and the light oil produced is in demand, so the sizable cash flow generated by the low costs will outweigh a lot of negatives in the future.

(Canadian Dollars Unless Otherwise Specified)

Source: Yangarra Resources February 2019 Corporate Presentation

This Cardium player unlocked the bioturbated zone in the Cardium. The drilling program allowed the company wells to access both intervals above and below the current drilling zone. That relatively new idea has allowed for unusually profitable wells. Much of the growth is due to the profitability of the wells. This company found a shallow interval that flows well and has a low decline rate. The result is outstanding profitability as shown above that leads to rapid cash flow buildup.

The result was drilling well breakeven costs that consistently stay below C$30. Given the weakness of the Canadian dollar, that is an extremely low breakeven cost for an oil producer. In fact, this is one of the lowest all-in costs of any company I follow in both Canada and the United States for a primarily oil producer.

Even more interesting is that the reduced capital budget should produce an average of about 40% production growth. Some of that is due to the fact that this company accelerated some of the drilling of new wells into the current 2018 fiscal year. So the full effect of those wells when completed will be in the 2019 fiscal year.

Compare to California Resources

California Resources (NYSE:CRC) has a lot more cash flow and about $5 billion in debt to get where it is today.

Source: California Resources Fourth Quarter, 2018 Earnings Press Release

Market darling California Resources was a big winner last year. The stock climbed from single digits to peak at about $50 per share to reward traders with a great return. However, the leverage risk is far higher.

California Resources reported about 5 times the cash provided by operating activities (taking into account the weakness of the Canadian dollar) that Yangarra Resources reported. However, California Resources needed to produce 9 times as much oil and gas as Yangarra Resources to get that cash flow. The exit rate of 136 BOED (mostly oil) is huge for the cash flow.

The Brent pricing advantage for the oil produced did not result in a competitive advantage due to the high costs. Plus the company cannot get possession of all the cash flow due to the joint venture cash payments shown above that are a priority. Ares (preferred stock payments) and BSP reduce the cash flow from operating activities by $40 million. All this is before you consider the Mezzanine Equity requirements (including the PIK) and the more than $5 billion in debt.

None of those considerations is a worry for an investor in Yangarra Resources. The wells are profitable enough to allow for considerable growth without joint ventures and other debt arrangements.

Canadian Operating Issues

Production increases tend to be largely confined to the fall and winter months. Spring Breakup causes a seasonal lull in activity. Activity does not pick up again until the weather allows in the third quarter. That pickup can vary considerably. Therefore, much of the drilling and completion work is done between late fall and the beginning of Spring.

Source: Yangarra Resources February 2019 Corporate Presentation

The rapid cash flow growth has been matched by rapid reserve growth. Here the reasonable reserve valuation most would pick would be about C$11 per share at the end of fiscal year 2018. But that is close to four times the closing price of the stock shown above (and accounting for the currency translation).

Much of the acreage has been derisked and management has added the infrastructure needed to minimize costs. The results shown above is a maximum C$8 per BOE of operating costs. General and administrative costs have also been kept deliberately low. Finding and development costs were C$10.15 BOE.

The debt shown above is less than two times the estimated cash flow from operations. In fiscal year 2019, management has no plans to add to that debt. Lease-holdings have already been considerably expanded in fiscal year 2018. Management feels they have enough locations for the next 15 years. This company has the ability to grow in good and bad times for several years.

But that low finding and development figure is only one interval. The Cardium frequently has several intervals. None of the others have been explored by this management. So there could be still more upside potential to these leases in the future. The current zone produces such great returns, that management has not bothered with any other intervals.

"Yangarra has now drilled 60 HZ wells into the bioturbated section of the Cardium zone. Well results continue to improve as the Company refines the drilling and completions processes. Wells #41-50 recently achieved 30 days of initial production (“IP-30”) data and have the best results to date with average operating day IP-30s of 752 boe/d, which is 55% better than the average operating day IP-30 from wells #1-40."

The initial production rates shown above could make the 2019 production forecast conservative. This management has the luxury of raising expectations on a regular basis. More importantly, that leap of production shown above gives the company a hedge in case oil prices weaken. The low costs reported above are about to go lower still on a per barrel basis.

Management does have the ability to completely stop drilling should prices fall below WTI $40. In fact, a few years back when oil prices hit rock bottom in 2016, this company did not drill. Instead, they focused on acquiring more acreage at reasonable prices.

At this point, much of the supporting work appears to be done. Management can now focus on drilling wells and hooking them up to production knowing the supporting structure can handle the growth production.

Summary

At a time when most companies are cutting back the capital budget, this company will join the crowd. However, continuing well design and other improvements will result in outstanding production growth this year. Management just announced a 55% increase in initial production that should more than offset the lower capital budget for next year. Management will continue to experiment with still more improvements in the future.

Source: Yangarra Resources February 2019 Corporate Presentation

The company grew production by more than 50% in fiscal year 2018 and now forecasts production growth of another 40% this fiscal year. Despite that rapid growth, the enterprise value is more than 3 times forecast cash flow from operations. Instead of rapid growth, this stock is priced for a disaster.

Should oil prices rally during the second half of the fiscal year, this company could grow even faster than projected. Right now management will probably run a two rig program for all of fiscal year 2019. An increase in oil prices combined with the anticipated continuing well improvements may tempt management to consider a third rig.

Management regularly advertises "all-in" costs in the mid-C$20 BOE range. That current results appear to support that calculation. As new areas and different lease areas are drilled, the calculation will vary. But it is clearly among the lowest in the oil and gas industry of companies followed by the author.

Challenging industry conditions have financially stressed some producers. Expect this management to make an accretive acreage deal or two during the 2019 fiscal year.

Rapidly growing companies should be valued at more than eight times cash flow. That would imply a market value for the common shares of C$550 million or more than $5 per share using 2018 figures. But that figure should increase significantly in the 2019 fiscal year as production rises. The total cash flow for the year may be projected to be $100 million, but the exit rate of the cash flow will be considerably higher due to the rapid growth.

Management has years of cheap drilling with excellent returns available. This stock should remain a growth stock for years unless oil prices collapse. Then management would simply wait out the lower oil prices. In the meantime, the risk of loss of investment principle is very low here. The appreciation potential fueled by years of decent growth will be very rewarding.

A visit to the company website will show that several key managers and directors have built oil and gas companies before. That experience lowers the small and new company risk considerably. Evidence of that experience is shown throughout the article. For those used to the volatility of the oil and gas investments, this company could be an outstanding investment from the current price for long-term buy and hold investors.

Disclaimer: I am not an investment advisor, and this article is not meant to be a recommendation of the purchase or sale of stock. Investors are advised to review all company documents and press releases to see if the company fits their own investment qualifications.

Disclosure: I am/we are long YGRAF BTE CVE. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I also own 2 CRC long dated Calls