[Update 03/01/2014: Following a reader comment, I have updated this article which has reduced my estimate of cash growth a little.]
[Update 22/01/2014: Trapoil reported net cash of £16m at end December ’13.]
In this post, I’ve taken a look at a new farm-out deal announced by Trap Oil Group PLC (LON:TRAP) and run my eye over the company’s valuation, which suggests that its current share price could be a serious bargain that’s 93% covered by cash and other liquid assets.
Into the Valleys…
Trapoil announced a farm-out deal for its Valley Licence P.2032 last week.
I have to admit that I hadn’t heard of this licence before, and as far as I can tell, the firm has only mentioned it twice in an RNS announcement before, once when it announced provisional awards in the 27th licensing round, and once in its final results in March, when the firm said that it was one of several new blocks that needed seismic before any drilling decisions could be made.
Given this, it’s encouraging that Total has chosen to farm into the licence, which includes five blocks for which Trapoil has access to CGGVeritas’ 3D long offset data. Presumably the data provided enough promise to encourage Total to offer up some cash to fund new 3D seismic, and an exploration well.
Overall, the deal seems a good one to me. Trapoil has swapped some of its equity and data access for carried seismic and and an exploration well, while retaining enough interest to provide significant upside if things go well.
Interestingly, Trapoil also has an option to swap some of its interest in the Valleys licence for an interest of between 10% and 30% in Licence P.1816 (Block 29/15a)(“Scaranish”) operated by Total. The significance of this is that Total is about to drill an exploration well on Scaranish, which is close to Trap’s Romeo licence, and should provide extra information that could help Trap attract a partner to drill another Romeo well.
What are Trapoil shares worth?
While many shareholders have found Trapoil’s approach to E&P to be frustratingly slow, it’s hard to criticise the firm for the way in which it has built up its financial resources, and avoided the kind of ‘all-in’ wildcat gambles that ruin so many small cap resources companies.
A substantial part of the Trapoil’s market cap is now covered by its cash reserves and investments. As things have changed a little since the firm’s interim results were published in September, I’ve produced a rough estimate below of how I think things might stand at the end of 2013, ahead of the firm’s final results, which will probably be published in March.
Cash at 30 June 2013: £13.1m
In its interim results, Trapoil reported net positive cashflow of £3.8m over the preceding six months. Virtually all of this comes from Athena production, but the picture it provides is obscured slightly by a £2.7m purchase of intangible assets and a £4.2m bonus payment from Dyas relating to Trapoil’s Athena purchase price.
If these two exceptional items are stripped out, net positive cash flow during the first half was £2.3m, which equates to around £0.4m/month.
Trap’s last update on Athena indicated that production was down by around 15%, so that equates to net positive cashflow of around £2m during the second half.
Estimated cash at 31 December 2013: £15.1m
Of course, this doesn’t take into account any new investments the firm may have made during the second half, but is intended to show that Trap is still generating cash.
Trapoil caught some flak from some private investors for selling its former Reach Oil & Gas assets substantially below book value, but in reality, I don’t think it was a bad deal.
Trap’s $7.5m payment came in the form of just over 4m IGas shares, which it received recently. At the time of writing (updated 3/1/14), these have a market value of around £4.2m.
Therefore by my reckoning, Trapoil has £19.3m in cash and reasonably liquid assets, once its three-month lock-in period on the IGas shares is over (March 2014).
Given that Trapoil’s current market cap is just £20.7m, this valuation means that around 8.4p of its current 9.0p share price is covered by cash (6.6p) or IGas shares (1.8p).
All of the firm’s exploration assets and proven discoveries are discounted to zero, even though the firm’s current committed capital expenditure is just £2m, following the Valleys farm-out.
In my view, Trapoil remains a strong buy that is far less risky than most £21m natural resources stocks, thanks to the way the firm manages its risk and financial exposure.
Note: What are IGas shares really worth?
You could argue that IGas’s share price has been inflated by the hype around UK shale gas, and that it could just as easily collapse again, and I’d agree.
On the other hand, Lybster production was very low, and the field cost more than it earned last year. Knockinnon, while it is a proven discovery, needed investment for any further appraisal, so Trap’s paper loss on the sale doesn’t equate to any real cash loss.
What’s more, any future cash flow or upside from these assets should feed through to IGas’s share price anyway, so Trapoil still has some indirect exposure to both assets, as well as a 2% stake in a company whose licences cover a big chunk of the most prospective UK shale gas acreage.
Disclaimer: This article is provided for information only and is not intended as investment advice. The author may own shares in the companies mentioned in the article. Do your own research or seek qualified professional advice before making any purchase decisions.