Introduction
Tamarack Valley Energy (OTC:TNEYF) is a Canadian oil producer with a market capitalization of just under C$700M after taking the impact of the current capital raise into consideration. The company’s low-cost asset base and focus on the Clearwater area in Canada makes the company very interesting, even after its share price has doubled in just two months.
Data by YChartsTamarack has its main listing in Canada where it’s trading on the Toronto Stock Exchange with TVE as its ticker symbol. With an average daily volume of around 2.7M shares per day, the TSX offers superior liquidity compared to any other secondary exchange. I always will refer to the TSX listing in this article and the Canadian Dollar will be my base currency as Tamarack reports its financials in CAD and trades in CAD.
A quick look back at the 2020 results paints a very satisfying picture
It’s kicking at an open door when stating 2020 was a difficult year for oil and gas producers, and the only thing the vast majority could do was hanging in there and trying not to go under. Tamarack Valley Energy actually did a good job. Its total revenue decreased by approximately 40% on the back of a 10% lower oil-equivalent output (a drop from just over 24,000 boe/day to 22,000 boe/day) but the much lower realized oil and gas prices were obviously the main contributor to a rather weak year.
Source: Management Discussion & Analysis
The net loss on a pre-tax basis was entirely caused by a C$399M impairment charge and excluding the impairment, Tamarack would have reported a break-even situation (also thanks to a C$27M net gain on its hedge position).
Source: Financial statements
Looking at the cash flow statement however we see Tamarack was actually able to put in a decent performance. The reported operating cash flow of C$125.3M is robust, but I still need to deduct the C$6.4M in working capital contributions, the C$33M in hedging gains and the C$2.3M in lease liabilities. After doing so, Tamarack ended up with an operating cash flow of C$83M in a US$40 WTI oil environment. Not bad at all.
Source: Financial statements
Sure, Tamarack was free cash flow negative for the year, but we can clearly see things picking up again in the fourth quarter where Tamarack reported an adjusted funds flow of almost C$29M and a capex of just C$13.1M resulting in a free cash flow of in excess of C$15M using US$48 WTI as average oil price. So while the 2020 results were uninspiring, it’s actually pretty good to see Tamarack was cash flow positive thanks to the contribution from oil and gas hedges, and even without these hedges, it would almost have been cash flow neutral.
Tamarack is doing the right thing by expanding, and is able to strengthen its balance sheet on the back of two new deals
In December, Tamarack closed a deal to purchase an interest in oil claims in the Clearwater region and to fund a portion of the C$74M (net of the proceeds from selling a royalty to Topaz Energy) was covered by a C$41M private placement whereby Tamarack Valley was able to issue the new shares at C$1.15 per share. A good deal for Tamarack as the Clearwater oilfields are known for their low-cost oil production, and selling a royalty to Topaz helped to keep the dilution limited.
Increasing the exposure to the low-cost Clearwater region will act as a natural insulator and hedge against oil price volatility. Even if oil dips down to $30, the Clearwater assets will still generate a positive cash flow and I was encouraged to see Tamarack Valley was taking advantage of its stronger balance sheet to acquire an additional 38,400 acres in the Clearwater region from Surge Energy, a Canadian competitor whose balance sheet needed to be strengthened.
Tamarack Valley is paying C$149M for the assets, and after receiving C$13.7M from selling another Gross Overriding Royalty, it needed to cover C$135M. C$11M will be paid in Tamarack stock while the remaining C$124M will be paid out in cash. Tamarack tapped the equity markets again and was fortunately able to drum up quite a bit of interest as the current high oil price makes investing in oil companies more appealing again.
Tamarack originally intended to raise C$55M by issuing 24.45M new shares at C$2.25/share (approximately 90% higher than the financing price in December), but the demand exceeded the offering size and Tamarack has upsized its financing to C$68.2M while the underwriters will be allowed to sell an additional 10%. I expect the overallotment option to be exercised which would bring the total amount raised to C$75M.
After deducting the legal fees and underwriting fees, Tamarack Valley Energy will likely see net proceeds of C$69-70M hitting its balance sheet. The remainder of the C$124M in cash (C$54M) will be covered by tapping its existing credit line. And considering the cash is now pouring in with WTI trading north of US$65/barrel and even Canadian oil prices exceeding US$50/barrel, I expect the net debt to decrease pretty fast again.
The acquisition also will boost Tamarack’s expected cash flow profile, and the company already has released an updated outlook for 2021. The average production rate will increase to 26,000 boe/day, and the anticipated adjusted funds flow has increased to C$215-220M. A portion of this increase is caused by the acquisition, but in its updated outlook, Tamarack is now also applying a US$57.50 WTI price compared to a price of around US$48/barrel in the January guidance.
Comparing apples to apples, the new acquisition will contribute around C$40M in adjusted funds flow and require about C$20M in capex. This means Tamarack is acquiring the new Clearwater assets at less than 7 times the expected cash flow at US$57.50 WTI. A good deal.
Source: company press release
At 57.50 WTI, Tamarack will be generating C$85-90M in free cash flow and this means drawing down the C$50-55M from the credit line to complete the new acquisition isn’t a problem at all: Tamarack expects to end the year with a debt ratio (net debt/LTM adjusted funds flow) of less than 1.
Investment thesis
The Clearwater region in Alberta is an area with very low production costs and Tamarack Valley Energy seems to be rolling up assets in the district as it can take advantage from its access to the capital markets and strong balance sheets to acquire assets with superior economics. The C$125-130M capex bill likely also contains some capex that could be considered growth capex. Applying a 22% decline rate means Tamarack needs to replace 5,720 boe/day in production and assuming a capex of C$12,500 per flowing barrel, the sustaining capex is likely just around C$70-75M to keep the production stable. Based on the capex guidance, I expect Tamarack to slightly boost its production rate and reach an exit rate of around 27,500 boe/day.
I missed out on Tamarack Valley Energy in January as I was hoping the share price would come down toward the C$1.15 level the company raised cash at in December. I was wrong, and the stock ran away from me. At a post-raise market capitalization of C$690M the company is still quite attractive but for now, I’m adding it to my shopping list. There will for sure be some weaker oil days in the near future and I hope I can pick up some stock below C$2 (assuming the WTI price remains above US$55-57).
Consider joining European Small-Cap Ideas to gain exclusive access to actionable research on appealing Europe-focused investment opportunities, and to the real-time chat function to discuss ideas with similar-minded investors!
NEW at ESCI: A dedicated EUROPEAN REIT PORTFOLIO!
