EQU - TSX -- Equal Energy

[sculpin]

Canadian Oil & Gas E&P's have been beaten down to extremely low valuations (in many cases at or below 2009 valuations) over the last year with the decade lows in natural gas pricing & the double discount Canadian companies have been receiving for their oil prices. For investment returns it is important to look for deep value with potential catalysts - Equal Energy is one such case & was written up on Guru Focus last week.

 

http://www.gurufocus.com/news/181708/equal-energy-deep-value-with-a-6week-catalyst

 

"Executive Summary: The stock market is currently offering anyone who's paying attention an unusually attractive buying opportunity. The purchase of Equal Energy (EQU) equity at $2.78/share offers investors an expected 6-week return in the range of 47% - 57%, which corresponds to an expected annualized return in the range of 410% - 489%. Furthermore, this extremely high expected short-term return is coupled with very good long-term downside protection, as the NAV of the underlying oil and gas assets is over $4/share even using a very conservative set of commodity price, discount rate, and production cost assumptions. Therefore, the probability of a permanent capital loss is very low."

[bathtime]

Cautionary note is that if the strategic review fails to find a buyer stock can tank like other Canadian juniors SCS and IAE. Lots of Canadian energy stocks are at significant discounts to NAV at present.

[sculpin]

Agree that stock could tank in the short term if the strategic review fails to receive any fair valuation. However Second Wave & Ithaca were trading at very high valuations already prior to the failure of their process. Equal trades at extremely low multiples even with the process under way.

[sculpin]

July 18, 2012

SUBJECT:  Realized Canadian light crude prices have improved significantly; will the equities follow?

IMPACT: Positive

DETAILS:  The WTI price has strengthened in recent weeks but there have been wider CDN price differentials periodically throughout 2012 which have negatively impacted Canadian wellhead prices. We note that the light differentials have narrowed substantially in the last couple weeks results in significantly higher realized oil prices for producers.

• The graph shows that the Canadian light Sweet Price (Net Energy) was trading at a of discount to WTI of $11.50/b or a CDN realized price of ~$65.00/b in late June.

• The discount in the couple weeks has narrowed significantly from $11.50/b to only $1.00 - $3.25/b currently. This narrowing combined with the improvement in WTI has significantly improved the realized price in Canada.  The implied CDN light price as of last night was ~$85.00/b a $20.00/b improvement in the last 2.5 weeks.

• This trend is also seen in other light crude products. For example, Bakken crude at Clearbrook MN has increased from US$63.69/b on June 28th to ~US$88.50/b this morning.

 

 

 

The oil weighted equities have not reflected this realized price improvement

• No surprise but there is a strong correlation between the light crude price and oil weighted producers in our coverage universe. We have included a graph going back from March which shows that the two often move in lock step (corr. of 85%)

 

• However, the recent strengthening in Canadian pricing has not been reflected in the share prices of the oil weighted producers and the relationship has diverged. The E&P’s that would benefit the most from the stronger pricing and sentiment would be the oil weighted producers. We have highlighted the Canadian oil weighted producers in our coverage universe below.

• Large Cap – ATH, CPG, PBN

• Intermediate & small cap  – CR, HYX, LEG, NVS, PRY, RRX, RPL, RMP, STO, SGY, SCS, SGY, TOL, WFE, WCP, VRO

 

[Parsad]

This topic does not belong in this section, as it is not in the specific format "Symbol - Name of Investment".  Either change the title, or it will be moved back to General Discussion.  Cheers!

[sculpin]

Whoops - hope this is correct. Thx

[Parsad]

Thanks Sculpin!  It's just so that we have a library of posts on an idea, and it's easier for anyone to look up the symbol if they were doing some research.  Cheers!

[sculpin]

Text from a research piece from Peters & Co. put out this AM

 

Continuing with our theme of late that you should be bullish on natural gas (my special email update calling for a “historic bottom” for TOU, CLT, PEY on April 25th looks pretty good right now…), you’ll see that the large storage surplus that we had at the beginning of the injection season continues to be worked off in a hurry. This is due in part to record power demand, fuel switching and decreased gas volumes (at least in Canada…US has been flattish but declines will take over). There continues to be next to no money spent on natural gas at the moment. In Alberta, there were 12 gas wells drilled in all of June and pipeline receipts have fallen by over 10% since January (a change of ~2 BCF/d). In my opinion we are looking at a market that is coming quickly into balance, and at this rate we will probably be looking at a YOY storage DEFICIT at some point this winter. As natural gas is a market that loves to overshoot in both directions, don’t be surprised to see prices recover much faster than you might think. Natural gas is a market that is littered with price spikes…and the next one is coming.

[sculpin]

A few more bullish indicators for natural gas that could help Equal monetize their assets at better valuation over the next few months...

 

From AML macro

 

US Nat gas inventory build was 28bn cubic feet last week vs 34bn expected and the usual build at this time of year of 74bn.As you can see, over the last 15 weeks gas inventories have fallen from 160.5% of 5 year average at this time of year to 117.5%. Assuming the trend continues, they should be at normal levels within 6 weeks before the winter draw down starts.                                                                                                             

 

Clearly rig count is very low at the moment as the losses mount in the sector, however there is a second aspect to the pace of drawdown. Initially when the producers started scaling down the rig count production remained high for some time. That was due to thousands of uncompleted wells - (wells that have been drilled but waiting pipeline connections etc) - still coming on stream. I am told that these will also be exhausted by November so without new wells being drilled, production will decline aggressively.                                                                                                                 

 

For the moment the rigs have been used by the oil industry. It seems unlikely that they will be returning them for use for gas drilling unless gas prices rise significantly and margins turn up. At the moment it is said the top 35 gas producers in the States have negative cash flow of about USD10bn a quarter so prices will have to rise considerably to adjust the economics back in favour of more gas drilling.    Assuming this does happen, it could also mean a squeeze on oil.               

 

There is already concern over US ethanol production. Whilst the US agriculture Secretary said yesterday that there was no need to reduce the ethanol mandate at the moment as the refiners can draw down on ethanol stocks, this presumably can only last a limited period of time. Will there be sufficient grain to rebuild those ethanol inventories? There is also the prospect of what high food prices, which are now above 2008 levels, do to Middle East politics and their production.    It just looks to me as if supply issues from gas and agricultural side may suddenly catch people short. 

 

From First Energy in Canada...

 

 

We provide an update of our tipping point estimate - the

U.S. gas rig count required to bring U.S. domestic gas supply

growth to a halt. At 520 gas rigs, we believe that this is

much lower than the figures implied by other Street analyses,

but that market is now much closer to seeing a more

negative natural gas supply picture begin to emerge for

the United States.

 

Key conclusions from this research note include:

 

• The market remains increasingly impatient for signs of a

downturn in U.S. domestic natural gas supply.

 

• We compute that the U.S. rig count is at or near the tipping

point of 520 dedicated natural gas rigs, which is that

rig count needed to bring U.S. domestic supply growth to

zero.

 

• Given our tipping point estimate, we expect that U.S.

domestic natural gas supply will begin to show flat to

negative year-over-year supply changes in the next few

months, setting the market up for a strong price rally

heading into 2013.

 

[sculpin]

Equal Energy Sweet Spot

 

July 30, 2012  | 2 comments  |  about: EQU, includes: PGH, SD

 

In the past, I have written about Equal Energy (EQU) in the context of the shareholder activism efforts undertaken by myself and a number of shareholders to unlock shareholder value. Those efforts have been rewarded, as the Calgary, Alberta, Canada-based oil and gas exploration and production company's management initiated a strategic review on May 3. I would like to personally thank the chairman, Mr. Dan Botterill, the CEO, Mr. Don Klapko, and the board of directors for demonstrating sensitivity to shareholders' demands.

 

In this article, I would like to focus on one of Equal Energy's hidden assets -- the Lochend Cardium acreage -- and demonstrate why this asset is likely to fetch a premium valuation in a transaction.

 

Full article...

 

http://seekingalpha.com/article/762571-equal-energy-sweet-spot

[sculpin]

Additional information on Equal Energy's U.S. operations and a scheduled update on the Company's strategic review late next week. Thanks to Nawar Alsaadi on Seeking Alpha....

 

 

For those following Equal Energy strategic review, I just got a word from the CFO this morning that the company plans to update the market on the review on August 10th (next week Friday prior to the market open).

 

Separately, here is some information I published earlier today regarding the Hunton formation, a key EQU operating area:

 

http://seekingalpha.com/article/770081-equal-energy-s-forgotten-asset-the-hunton-formation

 

[sculpin]

Equal Update.

 

http://seekingalpha.com/article/808991-equal-energy-operations-strategic-review-on-track

 

 

[Packer16]

I am a bit perplexed by Equal.  Why did they sell 50% of there Miss play for $18 million?  Based upon SD's past land deals they sold at discount and based upon the royalty trusts sold at a 70% discount.  They seem to be excited about Cardium but when I looked at the IRR charts from their presentation, it appears the IRRs turn negative somewhere between $70 and $95 oil prices.  Am I missing something?

 

Packer

[sculpin]

They sold an interest in the Mississippian in order to get a well funded, knowledgeable operator drilling wells in the formation for them. At the current time they didn't have the resources to go alone here. As for the Cardium, read the below reports. The move to slickwater completions in the sweetspot where Equal has their land has dramatically altered the economics of the play.

 

"The economics of the sweet spot are nothing short of phenomenal. Using $88.95 per barrel oil price for 2012 and $92 oil prices for 2013, NAL/Pengrowth is estimating a ROR of up 200%, NPV15 of $6 milli per location and 3.5 to 5 times recycle ratio"

 

http://seekingalpha.com/article/762571-equal-energy-sweet-spot

 

http://seekingalpha.com/article/836641-equal-energy-heads-a-win-tails-a-win

[Packer16]

I read those but has the economics on page 9 and 11 of the latest presentation appear to show tight economics and the referenced presentations refer to other portions of the same formation unless I am missing something.

 

Packer

[sculpin]

 

http://seekingalpha.com/article/871681-shareholder-activism-in-canada-and-equal-energy

 

The initiation of the strategic review was a major victory, but of course the battle to unlock value at Equal Energy is still ongoing. With the company choosing a new, more suitable chairman and hiring Scotia Waterous to undertake a comprehensive strategic review, Equal addressed many of the shareholders' demands. In light of the CEO and chairman's personal assurances to me of their commitment to concluding the strategic review successfully, and the natural consequence of a full-fledged proxy fight should the review fail to produce a material outcome, it is highly likely that the review will conclude to shareholders' satisfaction.

[mysticdrew]

 

http://seekingalpha.com/article/871681-shareholder-activism-in-canada-and-equal-energy

 

The initiation of the strategic review was a major victory, but of course the battle to unlock value at Equal Energy is still ongoing. With the company choosing a new, more suitable chairman and hiring Scotia Waterous to undertake a comprehensive strategic review, Equal addressed many of the shareholders' demands. In light of the CEO and chairman's personal assurances to me of their commitment to concluding the strategic review successfully, and the natural consequence of a full-fledged proxy fight should the review fail to produce a material outcome, it is highly likely that the review will conclude to shareholders' satisfaction.

 

The longer the review is the less optimistic I am.  The last update over a month ago around earnings (Aug 9) mentioned that proposals were already presented to the board.  Now if any of those proposals were real winners we probably would have heard about it already... leads me to think none of the proposals were up to par with what the board was looking for.  Hopefully I'm wrong.

[sculpin]

Several new articles on Equal since the last post (below). As well, the Company has sold several lower profit properties in both Canada & the US for about $57 million in cash & the reduction of well liabilities. Equal is now left with its most prime Cardium oil property in Canada which could still be sold & its liquids rich natural gas property in the US which is potentially a good cross border trust or MLP asset. Balance sheet is now much cleaner & the Nymex natural gas future price has hit $3.60 this morning.

 

 

 

http://seekingalpha.com/article/908051-equal-energy-the-theater-of-the-absurd

 

http://seekingalpha.com/article/910501-management-alignment-equal-vs-zargon-energy

[sculpin]

Equal sold their Cardium assets for $62 million - much more than many thought they would receive. Now have $10 million in cash, only a $35 million convert as debt, some royalty interests in Canada and 7,800 boed of production (48% NGL's) in the U.S. that could be sold to a MLP or a cross border trust. Flowing boed valuation only at $18K/boed. Fair value should be at least 75% to 100% higher....

 

Equal Energy Announces Sale of

Lochend Cardium Assets

 

Calgary, Alberta – (CNW – November 2, 2012) Equal Energy Ltd. (“Equal” or “the Company”) (TSX: EQU) (NYSE:

EQU) is pleased to announce that it has closed an agreement with another Canadian energy company whereby

Equal has sold its Lochend Cardium assets for cash consideration of $62 million, effective October 1st 2012. The

assets sold include current production of approximately 525 boe/d (93% light oil) based on the most recent 30 day

average, related infrastructure and undeveloped land.

 

Equal will use the proceeds from the Lochend sale to fully repay the amount outstanding on its credit facility and

estimates that it will have approximately $10 million in cash after the repayment. Net debt will total approximately $35

million including outstanding convertible debentures. In light of this disposition the Company’s banking syndicate is

reviewing the limit on the Company’s credit facility. Equal estimates that the credit facility will be in the range of $110

million secured against the borrowing base of the Central Oklahoma assets.

 

Equal’s last remaining Canadian asset is represented by a royalty stream of payments from producing wells in

Western Canada. The Company will continue to operate its Central Oklahoma assets consisting of approximately

7,800 boe/d of liquids rich natural gas where strong historical drilling success has been experienced. There is an

established inventory of future drilling locations and a staff of experienced people in Oklahoma managing these

assets. Management believes that in addition to successful drilling, there is significant additional upside from natural

gas and NGL commodity price recovery.

 

The Company is still conducting its Strategic Review process and is evaluating proposals for the sale of the

remaining royalty assets which, if sold, will represent an exit from all Canadian operations. Equal’s Special

Committee of the Board of Directors and management are moving to the final step in the Strategic Review Process to

finalize the go forward strategy for the Company. A Canadian Trust, US Master Limited Partnership and an

Exploration and Production Corporation are all being considered. The make-up of the Board of Directors and

Executive Management team as well as an overall go forward manpower plan will follow the Company structure

decision. Equal expects to conclude the Strategic Review process shortly after the conclusion of the evaluation of the

royalty proposals, likely by late November 2012. Equal is being advised on the strategic review process by

Scotiabank. Desjardins Capital Markets is also advising Equal on the strategic review process relating to Equal’s

Canadian assets.

 

[sculpin]

New write up on Equal - what could be the end of a 4 year bear market in natural gas would really help this situation as well.

 

http://www.gurufocus.com/news/198519/equal-energy-still-undervalued-with-several-nearterm-catalysts#

 

 

Equal Energy: Still Undervalued With Several Near-Term Catalysts

November 21, 2012

Introduction: Equal Energy (EQU) is currently in the final stages of an ongoing strategic review that has been the subject of many prior articles authored both by myself and Nawar Alsaadi, the leader of the activist shareholder group that has been lobbying for change. Equal's shares remain significantly undervalued. As will be shown in much more detail below, $6.20 per share is a reasonable mid-point estimate for Equal's long-term fair value, while the shares currently trade at around $3.30 per share.

 

Furthermore, several hard catalysts should force this valuation gap to close in the near term. These hard catalysts include the following: a) conclusion of the strategic review and an announcement of a corporate restructuring into a dividend trust, expected by the end of this month; b) announcement of a significant stock buyback by the end of this year; c) sharply increased propane prices by mid-2013; and d) an initial dividend announcement expected by early 2013.

 

If it takes eight months for the valuation gap to close significantly, and it's unlikely it will take that long, that would represent a roughly 132% annualized expected IRR on an EQU investment made today. That is an uncommonly attractive investment opportunity.

 

So far things have gone pretty much as expected when I wrote my previous article about Equal, except that the strategic review has taken about three to four months longer than anticipated. Three asset sales have now closed — Mississippian/Northern Hunton, Viking and Cardium — and the final Canadian asset sale, which is a combination of the Canadian royalty stream and tax pools, is expected to close by the end of this month.

 

The Viking sold for less than I was expecting due to an asset retirement obligation not fully taken into account, but the Cardium sold for significantly more than I had estimated. If the remaining Canadian assets sell for approximately $8 million ($5 million for the royalty interests + $3 million for the tax pools), then Canada will have sold for a total of $15.4 million (Viking) + $62 million (Cardium) + $8 million (royalty interests plus tax pools) = $85.4 million, which is above the $75 million estimate I used in my previous article. The Mississippian and Northern Hunton assets sold for $40 million, which means that by the end of this month Equal will have raised a total of $85.4 million + $40 million = $125.4 million in cash.

 

That's a lot of money for a company of this size. So far management has used all of that cash to reduce net debt, and as a result the balance sheet has improved dramatically. However, as will be shown in great detail later, I believe that management has gone too far in the direction of deleveraging and that at this point it's very much in the shareholders interests to prudently re-leverage the balance sheet by repurchasing around $30 million of undervalued EQU shares.

 

In the remainder of this article I will provide details of the model we're using to predict Equal's sustainable dividend per share and market valuation after it has been restructured into a tax-advantaged dividend trust, either a U.S. MLP or a Canadian Trust ("Mutual Fund Trust").

 

Central Hunton Model

 

After the rest of the Canadian assets are sold, Equal's sole remaining producing asset will be the Central Hunton. We are modeling Central Hunton production, revenue, and expenses as follows.

 

 

Total Oil NGL NG

Production (bbls or mcf per day) 7,798 209 3,630 23,760

Long-Term Price Assumptions $ 87.00 $ 39.15 $ 4.25

Quarterly Oil, NGL, NG Revenue $ 23.84 $ 1.66 $ 12.97 $ 9.21

Royalties $ (5.96)

Production Expense $ (4.48)

Transportation Expense $ (0.14)

Quarterly Long-Term EBITDA, no G&A $ 13.26

Annual Long-Term EBITDA, no G&A $ 53.03

Annual G&A $ (8.0)

Annual Long-Term EBITDA $ 45.0

 

 

Source: Q3 2012 Financial Report and 9/24/2012 Press Release

 

One very important assumption made in the table above is that annual cash G&A expense going forward will be approximately $8 million per year. In the first quarter of 2012, before the temporary expenses caused by the strategic review started being incurred, annualized cash G&A was running at about $12 million per year. We believe this 33% expected reduction is appropriate because a) the inefficiencies caused by the U.S./Canada operations split have been eliminated due to the sale of all Canadian assets, b) U.S. operational efficiency should be improved due to geographic concentration in Central Oklahoma, c) total production has decreased by 25% compared to the first quarter of 2012 due to asset sales, and d) comparable Canadian foreign-asset trusts have lower corporate cost structures than what we're estimating for Equal (e.g. Parallel Energy Trust has annualized G&A of around $7 million per year).

 

It should also be mentioned that discussions with a private operator in the Hunton have confirmed that if Equal's Central Oklahoma assets were operated as a private O&G company, G&A could be reduced to something closer to $4 million per year rather than $8 million. So suffice it to say that we view $8 million as an upper bound on what is an acceptable level of G&A going forward, and we hope it will end up being considerably below that level once the cost structure is optimized.

 

The long-term commodity price assumptions are obviously a key part of this analysis as well. Our assumptions for oil and natural gas shouldn't be too controversial, as the futures markets are predicting $89.90 WTI oil and $4.02 HH gas in 2013, while the longer term futures contracts indicate a slightly lower oil price and a somewhat higher gas price for dates out to 2020. The long-term NGL pricing assumption of $39.15 per barrel, on the other hand, requires some more explanation.

 

Futures market pricing for fourth quarter 2012 indicates a Conway propane price of $0.79 per gallon equals $33.29 per barrel, and if we assume that Equal realizes around 90% of that for its NGL barrel (which is reasonable when propane is priced so low compared to WTI), then that works out to $29.96 per barrel. That's obviously much lower than the $39.15 per barrel assumption used in the table above. Similarly, futures market pricing for 2013 indicates an average Conway propane price of $34.68 per barrel, which implies an NGL realization of around $31.21 per barrel – again, much lower than our long-term assumption.

 

Having said all of the above about NGL pricing, it's important to understand that on a long-term historical basis Equal has normally realized between 45% to 55% of WTI for its NGL barrel and we're using the low end of that range, 45% of WTI, to derive the assumed NGL price of $39.15 per barrel. Furthermore, a closer investigation of the price of propane in 2011, 2012 and what is expected in 2013 increases our confidence in this NGL pricing assumption. Please see this article for a more detailed discussion of propane inventories and prices, but a very quick summary is that the lack of winter in 2011 to 2012, increased liquids-rich shale gas drilling, and a transportation capacity deficit in the mid-continent region caused an enormous glut of propane to develop in 2012 and the spread between Conway and Mont Belvieu pricing to blow out.

 

All of these factors are currently in the process of reversing, including the following: expectations for a normal winter; increased petrochemical demand for propane due to depressed pricing; the new DCP pipeline coming on line to carry NGLs from the mid-continent to Mont Belvieu; and most importantly of all, a tripling of export capacity due to the EPD and Targa export terminal expansions in 2013 and the fact that U.S. propane is now priced at about a 50% discount to international propane, an arbitrage gap that is unsustainable over the long term. Recent research notes put out by Merrill Lynch and JP Morgan confirm this propane analysis. If Mont Belvieu propane averages around $1.25 per gallon in 2013, which is a pretty conservative assumption given that it varied between $1.30 and $1.60 in 2011, and we assume a $0.10 per gallon discount at Conway, then we can estimate that Conway propane will average around $1.15 per gallon equals $48.30 per barrel in 2013. Therefore, to hit our $39.15 per barrel NGL target Equal would need to realize around 81% of Conway propane for its NGL barrel, which is very reasonable given the historical data found here on Slide 10. In summary then, we believe that the NGL pricing assumption of 45% of WTI is valid for 2013 and is probably too low over the longer term, once ethane pricing reverts to its normal historical relationship with the other NGLs.

 

Balance Sheet Strength

 

What follows is an analysis of Equal's balance sheet as of Nov. 2, 2013. I have assumed that the remaining Canadian assets will be sold for approximately $8 million by the end of this month.

 

Convertible Debentures @ 6.75% $ 45.0

Bank Credit Line @ 3.24% $ -

Working Capital Deficit (Surplus) $ (10.0)

Initial Net Debt $ 35.0

Sale of Remaining Canadian Assets $ (8.0)

Tender Offer $ 30.0

Post-Transaction Net Debt $ 57

Net Debt / EBITDA 1.3

Annual Interest $ (3.4)

EBITDA / Interest 13.1

Cash Flow From Operations $ 41.6

Net Debt / Cash Flow 1.4

Tender Offer Price (per share) $ 5.00

Number of Shares Bought Back (million) 6.0

Number of Shares Left Outstanding 29.0

 

 

Source: 9/24/12 Press Release and analysis given above

 

As shown in the table above, the balance sheet can easily support a $30 million stock buyback (listed as "tender offer" in the table) while maintaining a very prudent 1.4x debt/CF ratio. This debt/CF ratio assumes the commodity prices given previously, but even if we use more conservative pricing assumptions the balance sheet remains very strong. For example, if we use 2013 strip pricing for natural gas and Conway propane (even though there's very good reason to believe the futures market is wrong about 2013 propane pricing), and we assume a 90% NGL realization with respect to Conway propane, then the debt/CF ratio goes up to 1.8x. That's still a very prudent level of debt compared to the average dividend paying Canadian O&G company, which has a debt/CF ratio of around 2.7x according to TD Securities.

 

Dutch Auction Tender Offer

 

We believe that the most efficient and accretive method to re-leverage Equal's balance sheet is through the use of a $30 million Dutch Auction tender offer, with a cap of $5 per share as the maximum price the company is willing to pay for shares that are tendered. This proposal has been forwarded to the appropriate executives at Equal. If enough shareholders are willing to tender their shares at a price significantly below $5, then the stock's long-term fair value may end up being significantly higher than what is shown in the analysis below, since there will be fewer than 29 million shares outstanding.

 

Sustainable Dividend and Market Valuation

 

The following table shows how we derive the sustainable dividend and mid-point fair value estimate of $6.20 per share for EQU stock.

 

Capex for Flat Production $ 22.2

 

Maintenance Capex (including land) $ 5.3

Required Dividend Growth Rate 2.5%

Implied Production Growth Rate 1.4%

Capex for Production Growth $ 2.1

Distributable Cash Flow $ 12.02

Payout Percentage 100%

Dividend $ 12.02

Dividend Per Share $ 0.414

Interest Savings From Debenture Redemp. $ 1.6

Div. Per Sh. After Deb. Redemp. $ 0.469

Required Dividend Yield 7.50%

Stock Price Before Deb. Redemp. $ 5.52

Stock Price After Deb. Redemp. $ 6.25

 

 

The most important item in this dividend analysis is the capex required to keep production flat. The company has not yet disclosed the Reserve Life Index (RLI) of the Central Oklahoma Proved Producing (PDP) reserves, but we estimate it to be around 7.75 years based upon information disclosed by Scotia Waterous when their website contained information about Equal. Use of this inferred PDP RLI, combined with adjustments made to reconcile the 2011 AIF with the approximately 16% decline rate observed when Equal operated both the Northern and Central Oklahoma assets but didn't drill any new wells due to the legal dispute with Petroflow, yields our estimated effective decline rate of 14.7% per year for the Central Oklahoma (Hunton) asset.

 

Previously disclosed information on Equal's website indicates approximately 150 boe/d of initial production per Hunton well, which implies that 7,800 * 0.147 / 150 = approximately 7.7 wells must be drilled each year to keep production flat. Each well costs $2.9 million (including an allocation for periodic water disposal well drilling), which results in the $22.2 million flat-production capex estimate. Maintenance capex of $5.3 million is consistent with previous guidance from management, as it represents around 17.9% of the estimated total capex budget. We've also allocated $2.1 million of growth capex in order to achieve an expected dividend growth rate of 2.5% per year (assuming constant commodity prices), which is a reasonable expectation for an equity that's assigned a 7.5% dividend yield by the market (i.e. 7.5% yield + 2.5% growth = 10% expected annual total return). It should also be noted that 7.5% is the average dividend yield for US MLPs, so this is by no means an aggressive valuation assumption.

 

The company currently has $45 million of 6.75% convertible debentures outstanding. These debentures can be redeemed on April 1, 2014, and since that debt can be refinanced with lower cost bank debt (3.24%), we assume the company will do so. That will save $1.6 million per year of interest payments, and we expect that savings to be distributed to the shareholders in the form of increased dividend payments starting in 2014. Since the increased dividends should be permanent starting in 2014, the stock is worth the post-debenture-redemption valuation of $6.25 per share, less the first-year deficit of $1.6 million / 29 million shares = $0.05 per share, or around $6.20 per share today.

 

Sensitivity Analysis

 

Clearly the above fair-value estimate of $6.25/share is dependent upon many different parameters. Three of the more important of those parameters are varied in what follows, so that the reader can get a sense for how fair value changes with different parameter choices.

 

First up is the buyback amount. As shown in the table below, the fair value of the stock ranges from $5.31 - $6.96, using the given assumptions, when the buyback amount is varied from $0 - $50M.

 

EQU Stock Price vs. Buyback at $5 per share

(WTI=$87, NG=$4.25, NGL=45% of WTI, 7.5% Dividend Yield)

 

Buyback ($M) Stock Price Debt/CF

$ - $ 5.31 0.6

$ 10 $ 5.63 0.9

$ 20 $ 5.97 1.1

$ 30 $ 6.25 1.4

$ 40 $ 6.58 1.6

$ 50 $ 6.96 1.9

 

 

It should be noted that the above sensitivity analysis assumes the dividend yield required by equity investors is independent of the debt/CF ratio. Clearly that assumption is not strictly true, since as a company becomes more leveraged the cash flows to equity become riskier, but I believe this assumption is at least approximately true provided that the debt/CF ratio remains at well-below average levels. In other words, at a certain point there is nothing more to be gained by deleveraging, and while a certain amount of deleveraging was appropriate as part of Equal's restructuring process given its previously excessive debt load, it is now in the shareholders’ best interests to prudently re-leverage the balance sheet.

 

The following matrix shows how EQU fair value changes as a function of natural gas and NGL commodity price assumptions, holding WTI constant at $87 per barrel and the buyback amount at $30 million.

 

EQU Stock Price (WTI=$87, $30 million buyback at $5 per share, 7.5% dividend yield)

 

NG

$ 3.75 $ 4.00 $ 4.25 $ 4.50 $ 4.75

35% $ 3.39 $ 3.62 $ 3.84 $ 4.07 $ 4.30

40% $ 3.99 $ 4.22 $ 4.44 $ 5.10 $ 5.79

NGL 45% $ 4.87 $ 5.56 $ 6.25 $ 6.95 $ 7.66

(%WTI) 50% $ 6.71 $ 7.42 $ 8.13 $ 8.84 $ 9.56

55% $ 8.59 $ 9.31 $ 10.03 $ 10.75 $ 11.47

 

 

Please note that the matrix elements shaded in gray represent run-off valuations rather than going-concern valuations. That is, if there were good reason to assume that commodity prices would remain at those low levels (e.g. NGL at 35% of WTI) indefinitely, then it would not make economic sense to recycle cash flow from operations back into new Hunton drilling to keep production flat; at that point it would make more sense to let the wells decline and pay out all cash flows to equity and debt holders. The details of that run-off calculation are beyond the scope of this article, but I can provide those details to any interested reader (and I should also note that this calculation does take into account that there is some level of required G&A even in a run-off scenario).

 

Conclusion

 

To be sure, I’ve covered a lot of very detailed ground in this article, and I hope that at least some of you made it to the end! The bottom line is that EQU is a very undervalued stock and there’s good reason to believe that the large gap between current market price and fair value will close within eight months. It is also important for investors to understand that Equal’s management is aware of this article and that key shareholders are expecting the go-forward G&A, capex budget, share buyback amount and initial dividend per share to be in the range outlined above.

 

 

 

[sculpin]

EQUAL ENERGY LTD.

(T-EQU) $3.18

RATING: BUY TARGET: $6.00

(unchanged) (unchanged)

Mixed Jurisdictions = Mixed Messages

? EVENT: Q4 filings revealed no operational surprises, yet housekeeping

items abound as Equal adopts US reporting standards including GAAP,

volume reporting norms, and reserves standards. After selling its

Canadian operations in Q4, Equal elected to restate its last three years of

financials to show only the US operations. Our FY13 forecast of 6,400

boe/d is unchanged but reflects the US volume reporting norm,

previously presented as 8,000 boe/d with a 20% royalty

? Two almost inconceivably different reserve valuations arise out of the

US and Canadian rules. In fact, we calculate an after tax P+P NAV over

$8/share under NI 51-101 compared with ~$3.60/share under the US

rules. Detailed within, the former uses escalated forecast pricing and the

latter uses flat historic pricing – the quantum of reserves being valued

are within 10% of each other.

? DISCUSSION: The ambiguity among reserve values determinations

sees us increasingly drawn to a relative peer valuation approach.

Particularly as this transition greatly improves comparability with Equal’s

closest publicly traded peer – NewSource (NSLP-A). Both companies are

pure plays operating solely in the Oklahoma Hunton play. At 3,200 boe/d

NewSource is almost exactly half the size but with a much higher

valuation (EV of ~$190MM or ~$59K per daily flowing boe). Producing

almost identical product mixes from the same play, Equal is trading at

~$21K per flowing boe (35.2MM shares @ $3.25 less $24MM debt over

6,400 boe/d). Simply applying NewSource’s valuation ($59K per boe/d) to

Equal’s volumes yields a value above $9/share.

? IMPACT: Mixed.

? FORECAST: Aside from volume reporting convention, our estimates are

unchanged.

? VALUATION/RECOMMENDATION: Striving to be conservative yet fair,

our $6.00 target was based on a NAV calculated only on the PDP

component of reserve – this was adjusted for dispositions and lower

pricing. The actual reported after-tax PDP value reported under NI-51-101

was in-line (all things considered) at $225MM, implying a ~$5.75/share

NAV. (The US reporting offers no corresponding amount.) By itself,

perhaps this might have given us some cause to back off our target.

That said, as long as NewSource is trading at $59K per daily flowing, we

are content to keep our target at $6.00 (or ~$36K per daily flowing boe).

We reiterate our BUY rating with a SPECULATIVE risk rating.

[sculpin]

Equal Energy rejects Montclair bid, plans to stay quiet

 

 

2013-03-26 05:10 ET - News Release

Shares issued 35,562,967

EQU Close 2013-03-25 C$ 3.92

 

Mr. Don Klapko reports

 

EQUAL ENERGY RESPONDS TO UNSOLICITED PROPOSAL

 

Equal Energy Ltd. is aware of a public announcement by Montclair Energy LLC with respect to its prior unsolicited and conditional proposal dated Feb. 27, 2013, to acquire all of the common shares of Equal.

 

In response to Equal's receipt of the aforementioned proposal and a number of verbal non-binding and conditional expressions of interest for a potential transaction, the board of directors of Equal formed a special committee of independent directors in early March to investigate and evaluate all proposals presented to Equal. Global Hunter Securities LLC and Scotia Waterous Inc. were engaged as financial advisers to assist the special committee. The special committee, with the assistance of its financial and legal advisers, intends to consider such expressions of interest in a deliberate and thoughtful manner with a view to the best interests of Equal before undertaking any specific course of conduct. Equal did not intend to disclose, nor will it disclose further, developments with respect to the process being undertaken by the special committee unless and until the board of directors has approved a definitive transaction.

 

Equal has engaged in discussions with a number of potential suitors, including Montclair, to understand the terms and conditions of their expressions of interest and the value proposition they represent. Montclair's unsolicited and conditional proposal was rejected, as Montclair requested a response prior to the completion of the special committee's process. Equal would be pleased to consider further proposals from Montclair as part of the special committee's process.

 

There is no assurance that the special committee's process will result in the receipt of a definitive proposal and, if received, that such proposal will be recommended by the special committee or the board of directors or that such proposal will be implemented.

[sculpin]

Montclaire ups offer for EQU to $4.75

Offer submitted with their updated 13D filed earlier today:

 

http://www.sec.gov/Archives/edgar/data/1296863/000157104913000497/t1300316_13d.htm

 

The fact this was filed publicly a day after it was presented to the board, means Montclaire is going the hostile route, I expect Equal board to respond by securing a white knight at $5+. It is also worth noting that propane prices hit a new high for 2013 yesterday ($1.05/gal) this further underpins Equal's valuation and help secures a higher bid.

 

Regards,

Nawar

[sculpin]

Most likely the end of the Equal Energy thread. Believe price at first posting was $2.78 US so the $5.43 US bid almost results in a double plus there has been a $0.05 quarterly dividend.

 

2013-12-09 06:58 ET - News Release

 

EQUAL ENERGY ENTERS DEFINITIVE AGREEMENT TO BE ACQUIRED BY PETROFLOW ENERGY

 

Equal Energy Ltd. has entered into a definitive agreement with Petroflow Energy Corp. and Petroflow Canada Acquisition Corp. for the cash purchase of all of the issued and outstanding common shares of Equal at a price of $5.43 (U.S.) per share, on a fully diluted basis. The total transaction value, including net debt and transaction costs, is approximately $230-million (U.S.). The transaction received unanimous approval by Equal's board of directors and will be completed by way of a plan of arrangement under the Business Corporations Act (Alberta).

 

The $5.43 (U.S.) per share offered represents a 56-per-cent premium to the $3.49 (U.S.) closing price on March 22, 2013, the trading day prior to the company's announcement that it was pursuing a strategic alternatives process. The consideration is also a 23-per-cent premium to the $4.43 (U.S.) closing price on Nov. 18, 2013, the trading day prior to Equal's announcement that the strategic alternatives process successfully resulted in exclusive negotiations for a proposed transaction.

 

Equal's board of directors, with input from the company's advisers and management team, unanimously determined that the arrangement with Petroflow is in the best interest of the company's shareholders. In light of this determination, the board has resolved to recommend that its shareholders vote their shares in favour of the arrangement. All members of management of the company and its board of directors have indicated their intention to vote their shares in favour of the arrangement.

 

The arrangement must be approved by a vote of 66-2/3 per cent of the votes cast by shareholders at a special meeting.

 

As per the arrangement agreement and subject to certain fiduciary exceptions, the company has agreed that it will not solicit or initiate discussions with respect to any other business combination or sale of material assets. In the arrangement agreement, Equal also made customary representations, warranties and covenants to Petroflow.

 

Pursuant to the arrangement agreement, a termination fee of $2-million (U.S.) will be payable by the company in certain circumstances. These circumstances include if the company terminates the arrangement agreement to enter into an agreement with a party other than Petroflow, in response to a superior proposal, or if the board of directors of the company withdraws or modifies its recommendation in favour of the arrangement with Petroflow. Alternatively, a termination fee of $2-million (U.S.) will be payable to the company if Petroflow is unable to complete the arrangement.

 

Following the effective date of the arrangement, Petroflow will make an offer to purchase Equal's entire outstanding $45-million of convertible debentures within 30 days. In accordance with the terms of the indenture, cash consideration equal to 101 per cent of the face value, plus accrued and unpaid interest, will be offered to holders of the convertible debentures.

 

Global Hunter Securities acted as the primary financial adviser to Equal in connection with the strategic alternatives process. Scotia Waterous also provided certain advisory services to Equal. Stikeman Elliott LLP and Dorsey & Whitney LLP acted as Canadian and U.S. legal counsel, respectively, to the company.

 

GMP Securities LLC and Kinetic Advisors LLC acted as financial advisers to Petroflow. Kirkland & Ellis LLP and McMillan LLP acted as U.S. and Canadian legal counsel, respectively, to Petroflow.