Vaalco Energy Inc. (EGY, Financial) is a tiny independent energy company with a $53 million market capitalization. It specializes in oil producing properties in Gabon, West Africa and Angola. Specifically, activities include production, development, exploration and acquisition of oil and natural gas properties. The company manages exploration as an operator in Gabon, Equatorial Guinea and West Africa. Therefore, its intrinsic value is linked to oil prices.
As a result, each $5 per barrel improvement in oil price increases annualized cash flow by nearly $6 million, per management's public guidance. As of Dec. 31, 2016, Vaalco had 2.6 million barrels of oil equivalent of proved reserves related to its property in offshore Gabon Africa. Its U.S. property ownership and interests are in North Texas and Montana, which are now not a relevant oil producer. Vaalco was incorporated in 1985 with 104 employees.
The enterprise and market value for Vaalco has dropped 89% since 2012, 84% from 2014. In contrast, an exceptional trailing 12-month financial performance reported with a reasonable and improving balance sheet. Enterprise value to operating income over the trailing 12 months is 2.49, EV/OI is 2.49, EV/GP is 1.21, EV/EBITDA is 1.86 and EV/Sales is 0.62. These measures support the deep relative and historical bargain price thesis. For these reasons and others, the stock now attracts quality longer-term value institutional ownership. Further evidence of the market’s overreaction to the downside is the declining inconsequential short balance (1.20% short float) coupled with modest positive insider activity with no sales.
Insider transaction summary
In April, 50,000 shares, a total of $47,000, were purchased for 94 cents per share. Fiscal year 2016 recorded 60,000 shares purchased for an average price of $1.08. During 2015, 159,317 shares were purchased for an average price of $1.68, a total of $267,219.
If the favorable trailing 12-month results continue, Vaalco Energy offers an extreme discount to current operating performance and proven reserves. Then, the future stock price moves much higher.
The table below highlights and comments on historical 2012 to current deep and mean reverting valuation discounts.
Relative industry valuation analysis started with 413 companies in the oil and gas exploration and production industry. The list cut to 45 by filtering for a market capitalization between $10 million and $300 million.Then, removing per-share price less than 0.50 and over-the-counter exchange listed companies.
This list of 45 was first analyzed for insider transactions and institutional ownership. Vaalco, Petroquest Energy Inc. (PQ, Financial), Gastar Exploration Inc. (GST, Financial) and Approach Resources Inc. (AREX, Financial) are the only companies with positive insider activity in 2017. I went further, looking at the number of shares purchased to total shares outstanding as a measure of conviction. Vaalco ranked second most favorable behind Petroquest. Further, institutional activity for the quarter ending March 31 and total ownership analyzed for the 45 companies. The best results are shown for Vaalco. Petroquest placed second for value institutions adding to existing Vaalco positions during the quarter ending March 31. Specifically for Vaalco, the Tieton Capital Group, a small value investment firm, added 1,102,610 shares to increase its ownership to 2,244,631 shares. LONE STAR Value Management, Wilen Investment Management and Renaissance Technologies also added to existing positions during the most recent reported quarter.
The table below compares the group of 45 competitors to Vaalco. It highlights the stock's valuation advantages.
Risks
"In a commodity type business, you're only as smart as your dumbest competitor." -Â Warren Buffett (Trades, Portfolio)
Declining oil prices are always a possibility with multiple competing sources.
Reverts to its unprofitable negative cash flow, impacting access to financing.
Unexpected operational accidents. Litigation and disagreement with local African governments.
Opportunities
The company just published its June lifting results, 629,246 barrels. These bullish production results have not been exceeded since Sept. 25, 2015. Furthermore, strong reserves reported on Dec. 31, 2016. Vaalco had 2.6 million barrels of oil equivalent of proved reserves related to offshore property at Gabon Africa.
An experienced small team has years specializing in African oil production. Management's public commentary and investor presentations show a deep, detailed understanding of the operational and financial levers needed to drive its stock's value higher. The recent strong operating and financial results show an improved company versus multiple negative quarters fighting lower oil prices and operational challenges.
A clean capital structure with the financial strength this quarter to secure access to $4.2 million of added funds for financial flexibility and help execute strategy.
The strong financial results over the trailing 12 months, if followed by another one or two quarters, will move the stock price significantly higher.
No real institutional coverage, but National Securities reaffirmed a neutral rating and set a $2 target price on shares of Vaalco in March.
Reversion to the historical and industry mean valuation.
Disclosure: Long EGY.
