Beyond Petrobras: Value and Growth in the 'Other' South American Oil Companies

Includes: BZP, GTE
by: Harry Chernoff

For most oil & gas investors, South American oil is Petrobras (NYSE:PBR) and Petrobras is South American oil.  Since Petrobras was one of the largest and most successful investor-owned oil companies in the world even before announcing the gigantic Carioca and Tupi discoveries, this focus on PBR is understandable. 

It is also shortsighted.  With the recent pullback in oil equities, several little known but high growth South American oil stories are also now value stories, especially Gran Tierra (AMEX: GTE), Pacific Rubiales [TSX: PEG], and BPZ (AMEX: BZP).  What these three companies have in common are:

  1. a focus on Colombia and Peru – two of the most investor-friendly oil producing countries in the world,
  2. enormous net acreage positions in proven and highly promising basins,
  3. exponential production growth, and
  4. attractive valuations.

With an enterprise value of about $750M, Gran Tierra is the smallest of the three Colombian/Peruvian operators.  However, it has the largest net acreage position and the most aggressive drilling program (.PDF).  GTE controls almost 6 million net acres in Colombia, Peru, and, to a lesser extent, Argentina.  Production has increased from 1,000 b/d in 2007 to more than 4,100 b/d currently, with recent Colombian discoveries promising to continue the production growth (see here and here - .PDF warning.)

At its current run-rate of more than 4,100 b/d and assuming net realizations in the $100/bbl range, GTE would generate annualized EBITDA in the $100M range, implying an EV/EBITDA around 7.5x. 

Pacific Rubiales (.PDF) is the largest of the three companies.  It expects heavy oil production at its Rubiales field to increase from 12,000 b/d in mid 2008 to 45,000 b/d by the end of 2009.  Gas production at its La Creciente field is scheduled to increase from roughly 40 mmcf/d in mid 2008 to 60 mmcf/d by year-end and 100 mmcf/d by the end of 2009.  At $100 WTI, PEG expects its EBITDA to more than triple over the next 2-1/2 years, reaching $1.1B in 2010.  For a company with an enterprise value barely above $2.5B on a stock price of $10 per share, this valuation appears to make no sense.  The issue is that PEG’s concession at the Rubiales field expires in mid-2016 and the government of Colombia will certainly require a substantial payment to extend it.  If PEG’s valuation is adjusted for the 8-1/2 year economic life of its Rubiales concession, the stock trades in line with its undervalued peer group.  Of course, PEG’s valuation is also supported by substantial production and production potential at other fields with longer economic lives, including La Creciente.  

Finally, BPZ at $20 per share and an enterprise value of about $1.6 billion, combines compelling valuation, rapid production growth, and staggering exploration potential.  BPZ will average about 6,000 b/d this quarter and expects to average 8,000 b/d by the end of the year, all from the Corvina field in shallow water offshore Peru.  When the first Albacora wells come on-line in the third quarter of 2009 production will exceed 12,000 b/d, ramping up to 16,000 b/d by the end of the year.  Because of BPZ’s exceptionally high operating netbacks at Corvina, production of 8,000 b/d at $100 WTI generates annualized EBITDA exceeding $230M.  At 16,000 b/d, and the even higher operating netbacks at Albacora, annualized EBITDA would be about $500M.  Moreover, this production barely scratches the surface because 2009 is likely to see the first results from the planned ultra-aggressive exploration and development joint venture between BPZ and Royal Dutch Shell (NYSE:RDS.A).  With BPZ concentrating on the Corvina complex (Corvina, Mero, and Delfin fields) and the Albacora field (combined 1 billion barrels original oil in place) and the BPZ/Shell joint venture concentrating on the potentially LNG-scale Mancora gas field and numerous large deepwater oil prospects, BPZ is likely to turn its 2.4 million net acres offshore and onshore Peru into very large production in very little time. 

With the decline in oil prices, Gran Tierra, Pacific Rubiales, and BPZ are each down 25 to 35 percent from their highs of only a month or two ago.  BPZ has also been under pressure from a mistaken belief that the company will need to raise $300M in equity to match Shell’s planned $300M initial commitment to the joint venture.    In fact, BPZ will fund all of its capital expenditures over the foreseeable future using a revolving credit line with the International Finance Corporation (a unit of The World Bank and BPZ’s largest shareholder) and cash flow from operations.  No dilutive equity will be required to fund either the joint venture or the 100% BPZ projects. 

With GTE, PEG, and BZP growing production 100% per year or more and millions of highly prospective net acres in two of the most investor-friendly oil countries in the world, there is no rational reason for their current valuations.   Using 2008-2009 EV/EBITDA multiples as a comparator, each of these companies trades as if it were no better than a middle-of-the road, average growth North American producer.  Long-term oil & gas investors willing to venture towards South America and look at something other than Petrobras should take note of these undervaluations. 

Disclosure: Author is long BZP and PEG.TO. No position in GTE, RDS.A, or PBR