TAG Oil: Value Stock or Drill Punt?

TAG Oil’s latest operational update triggered a 25% plunge in the stock price. The production numbers came in at 2,700 boed, way below the expected 5,000 boe/d management was guiding for after the completion of the infrastructure expansion. Is the stock an opportunity to buy a value stock or simply a drill punt? There’s no clear answer, it depends from which side you look at it!

Tag Oil is a New Zealand focused E&P company with a large land package distributed across 3 basins.

  • Taranaki, East Coast & Canterbury basin with roughly 4 million net acres

tag nz permitsThe Taranaki Basin is a proven producing basin with more than 130,000 boepd of production. It offers both shallow conventional opportunities and deep high impact condensate rich tight gas prospects in 46,000+ net acres.

With over 2.5 million net acres the East Coast Basin is an unconventional play (a tight oil play), the size of the prize is estimated at +14 billion barrel of OOIP (Pie in the sky, no way of telling how much is commercially viable)

Canterbury Basin: 1.2 million net acres of exploration.

The stabilized production rate was the catalyst the market was waiting for following a major infrastructure build. It was a clear disappointment; only 2,700 boed following the tie-in of 20 of 26 wells tied in at the Cheal Facility. That leaves only 6 wells to be tied in by the end of June which could lift production to 3,300 boe/d and then average 3,000 boe/d for the rest of the year bar any further drilling success (10 more wells will be drilled by the end of the year).

guidance tao

Royal miss on the original guidance! (we are in fiscal Q1 2014 right now)

The elephant in the room here is the steep decline rate!

Reminds me of New Zealand Energy Corp (NZEC) NZ.V 0.255 [+0.015]. NZEC’s share price has been decimated as its wells declined steeply. The company also needs to find some cash to close their infrastructure acquisition and resume drilling.

NZEC’s last quarterly report acknowledged the declines citing waxing could be the problem:

While a decline in production is expected over time, it is possible that the higher decline rates may be due not to reservoir conditions but rather to mechanical issues, including wax buildup downhole. The company has conducted a number of tests to resolve this issue and has found that flow from the wells improves following condensate washes, which dissolve wax that has formed around the pump. The team is analyzing the results of condensate washes conducted to date in order to identify the optimal interval between each wash. In addition, the company has engaged an independent reservoir management company to investigate the cause of and identify remedies to these issues in an effort to optimize oil production. Such remedies may include stimulation of well flow with condensate washes, modified pumping mechanisms or other forms of reservoir stimulation.

Getting back to TAO, there are 2 outstanding issues the market hates right now:

  1. Obviously, the decline rates. The market will not want to invest in a company that’s unable to show a high growth rate in production. Should waxing be actually the problem, it will require some time to identify and fine tune the remedies.
  2. Management, which was able to command a premium valuation for the past 2 years, registered a miss. This means it usually takes a few quarters before they regain the confidence of the market.

Based on the 2 points above, the stock right now is a drill punt for 2 reasons:

  1. We should be getting news from the East Coast basin; a production test could be forthcoming in a month or so.

A success in the East Coast Basin would be HUGE and provide a major uplift to the stock. It’s as if the Bakken has just been discovered! Let’s not kid ourselves though, it doesn’t look like the stock will garner any speculative premium leaving investors with a binary outcome. Even if the drilling witnessed oil and gas shows, the key questions here is: Will the formation be able to produce and at what rate?

  1.  Two Deep exploration prospects coming in the second half of the year with the first one expected to spud by July.

The “Cardiff” is a deep liquids rich natural gas prospect at 4,000m depth located on the Cheal permit in the Taranaki Basin.

So we’ve got our drill punt case covered in a mixture of deep exploration wells and massive shale POTENTIAL on the East Coast Basin.

But what about the value territory?

TAG controls about $100 million in infrastructure and has some $60 million in cash. At 3,000 boe average production (46% oil, 54% gas), the remaining capex for the year is fully covered by CF. The $60 million or $1 per share isn’t going anywhere any-time soon.

So what’s the stock worth? Let’s take a quick stab:

(Infra + Cash) $160M / 60M shares = $2.66 per share. At $3.40 per share, that leaves less than $0.80 per share or $48 million for production! That’s a little bit low for more than $35 million in annualized cash flow (using $105 per barrel of oil Brent and $5 per mcf for gas).

Let’s ignore $100M in infrastructure….

The question here is: what is a decent CF multiple for international producers? If we apply a 4x multiple and add the cash we get $200 million /60M OS = $3.33 per share leaving everything else and all upcoming catalysts for free.

On an EV/BOE basis, TAO is trading at around $50k per flowing boe, not excessive at all give the premium they realize on their pricing compared to NA.

NZ offers great netbacks for both oil ($73/b) and gas ($3.88/mcf) but I am having trouble picking my side. On one hand I already have a drill punt stock NKF/DXE and I wouldn’t want to have more than one. On the other, I would prefer to wait until NZ or TAO get a better handle on waxing. While you can’t fight the geology, if waxing is partially responsible for the decline rates maybe they might be able to optimize each well for a better production profile. Finally, if any of the catalysts mentioned above is a hit, the stock will quickly exit the penalty box.

Where do you stand on Tag Oil?

 

13 comments to TAG Oil: Value Stock or Drill Punt?

  • junior oil

    NZ and TAO were fighting over infrastructure and both spend to much money for infrastructure that will not be optimized.
    East coast basin heavily faulted- and New Zealand no-frac policy are going to limit any real upside. until current production levels off (which i believe will be challenging with declines and lower ultimate recover) just cant get too excited about it..

    nko.nt

  • W.C.

    Hey Mich,

    I’m not sure junior oil is correct as while the NZ environ”mental”ists are all over fracking I wasn’t aware of any policy with an outright ban of fracking in NZ???

    As well, to my knowledge TAO has all the infrastructure that they requireat this point so not sure about that comment either???

    Besides, IMO I would suggest 80% plus ofat least the retail investors are really into TAO for the EC potential rather than the Taranaki.It needed to give the stock a base and cashflow to work with but in the end the EC is the real prize.

    I look at it this way, if the EC is a bust then TAO is just another international oil junior that happens to get Brent type pricing and is nothing special. If we hit on the EC then HUGE upside potential. Your typical high risk/high reward play IMO. Remember if the EC works (commercial/over all/majority of the land)we’re talking billions of OIP not millions.

    JMHO on all this but I’m in already. Not a huge position but enough that if the EC is a winner going to make a nice chunk of cash!!!

    • Mich

      W.C

      Fracking is not an issue at all in NZ until further notice.

      I also agree with you about the 80%+ retail investors, one reason the stock was able to sustain a premium valuation for so long was because of the EC potential.

      For now the EC drill is the next major catalyst but we should not belittle the deep liquids rich gas potential here.

      Good luck on the EC WC, it will be a memorable summer if TAO hits :)

  • junior oil

    http://tvnz.co.nz/business-news/tag-spuds-in-first-east-coast-fracking-exploration-well-5415434

    you are correct there is no outright ban and they might eventually be able to frac– but until it is fact i would prefer to stay away..

    infrastructure— yes to do have enough infrastucture ( too much). all the build out was for the anticipated production of 5000 barrels—not going to need that for a while since i believe there is more declines coming..

    • Mich

      the company did one thing right, they exploited their premium valuation to raise money. The end result is an excellent balance sheet with a ton of infrastructure.

      The next phase begins now, no more premium, let’s see how things will go regarding the decline rate!

  • W.C.

    Easy junior oil, I think your Jorge Casablanca is showing!

  • Garmin

    Heya Mich,

    I wish you and everyone else the best.

    Could you lend me a hand on how I would go about calculating decline rates at least for TAG oil?

    Because otherwise I quite like them:
    1) Organically funded growth starting now.
    2) High netbacks due to Brent pricing.
    3) Ability to scale growth through different plays.
    4) Recently devastated share price.

    It appears to me that even with a gigantic miss by management over-promising and under-delivering that they’ve just reached a stage that they are able to fund their growth in perpetuity. That’s mostly what I am looking at, whether or not that they will be able to continue.

    The problems that really start to crop up for me is decline rates in particular being very troublesome. I wish that there was more information about how much decline rates we’re looking at.

    Otherwise this seems like a value play.

    • Mich

      Garmin,

      The company was guiding for 5,000 boe and reiterated its guidance in April 13. That’s based on 26 wells or about 200 boed. Their update with 2,700 comes out to 135 boe, it appears production declined steeply.

      That’s a rough way of looking at it as the company had not provided any details at all.

      I’d love to know how the other wells fared vs the Cheal B3 which had a decline rate of 20% in the first year. Lots of unknowns really…so the dumping is justified until we get some details.

  • junior oil

    The infrastructure build out was complete April 4 and going through that press release they still anticipated 5000 BOE/day production. They have had 2 month to Tie it all in, and they are under 3000– so that is A HUGE miss, and they really have not released enough info on the economics. Going to have to wait for that or some sign of stabilization on the decline.
    ON the other hand it is getting pretty cheap to take a trade on it.

    who the heck is Jorge Casablanca

  • Donald

    The waxy crude produced from the shallow play in Taranaki is no longer an issue for TAG with the new facility. The facility heat treats the oil.

Leave a Reply

  

  

  

You can use these HTML tags

<a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <strike> <strong>