RESACA – A NANO CAP LIQUIDATION PLAY

[M77]

Company: Resaca Exploitation, Inc

Date: 2013-06-20

 

Ticker: AIM: RSOX

 

Price: £0.03

 

Warning: this is a highly illiquid nanocapstock and it wont suit most investors. I am not investing myself but there might be someone with more insight that might do something with this idea.

 

Background

 

Resaca is an independent oil and gas development and production company based in Houston, Texas. The company is listed at AIM in the UK. Note that this is a highly illiquid stock with a market cap of less than £1m.

 

Resaca’s activities has until recently been focused on the exploitation of its portfolio of properties in the Permian Basin of West Texas and Southeast New Mexico. That changed on March 30, 2012, when Resacas quarterly filings showed that the company was in breach of some of its financial covenants under its credit facilities. The company is still in default.

 

Since the breach the management team has unsuccessfully tried various ways to reduce the indebtedness. The only remaining alternative has been to sell all the company’s assets, pay off the debt and give the remainder to the shareholders – a voluntary liquidation.

 

The company has received a bid of $72m for all of its oil and gas properties. According the Notice of Special meeting from 30th of May, after paying of debt and transaction fees the remainder would be $0.11 (£0.073) per share for the shareholders. Since the share today costs £0.03 that would mean a 143% return in a couple of months.

 

Is it interesting?

 

As I see it there are four questions an investor needs to answer in order to decide if to invest or not:

 

1. Will the proposed transaction go through?

 

2. If the sale goes through, are the numbers presented by the management correct?

 

3. If it does not go through, what happens?

 

4. What can go wrong if he transaction goes through and the numbers are correct?

 

1. Will the transaction go through?

 

In order for the sale to go through 2/3 of all shareholders need to say yes to it. As it is presented it seems like a no-brainer decision for all the shareholders. In practice the board says that either 1) approve the deal and get £0.073/share compared to todays price £0.04/share or 2) get zero. What shareholder would vote against that?

 

Maybe the one that has seen its investment in the company decline 98%? I’ve done a quick and dirty review of the current shareholder base and assumed that the only shareholders that will vote for the disposal are the ones who has a large enough economic or other incentive to do it:

 

 

• the board and management – they have not paid for their shares
  
• institutional investors – its their job
  
• investors that has lost less than 90% of their investment – the shares have declined in value since the IPO and I have just assumed that if an investor has lost more than 90% of their investment they just don’t pay attention to the proposed sale or don’t care about the outcome. About 4m shares have traded hands since the price of the share fell below £0.40 per share and of those 2m have been bought by Eagle Eye International, an investment firm. (The assumption might be too conservative, buts the way I like it.)
  Assuming that the board (3.9m shares), institutional investors (6.1m) and shareholders that has lost less than 90% (2m) vote in favor of the deal it gets 58% of the votes, below the 67% required. So, I don’t think there is high enough probability that the sale will be approved.
  

 

2. If the sale goes through, are the numbers presented by the management correct?

Given that I do not think the transaction will go through I will not spend to much time here. But the balance sheet is fairly straightforward and the numbers are most likely correct.

 

3. If it does not go through, what happens?

At first I thought that it wouldn’t matter too much if the shareholder didn’t approve the sale since the company could still sell the assets during a liquidation (which would be the only remaining alternative), since it would be in the interest of all involved. But unfortunately, if the deal is not approved Resaca needs to pay a $3.6m termination fee to the Purchaser. That might not sound like much but it’s actually 1.6x times the net proceeds to the shareholders in the case of an approved sale. So if the shareholders say no to the deal, the value of the shares is most likely zero.

 

4. What can go wrong if he transaction goes through and the numbers are correct?

The risk is that Resaca will be liable for different kinds of defects of the sold asset of up to 2% of the consideration and for indemnification of up to 5% – for a combined total of $5.0m. It’s hard to estimate the outcome, but should be noted that if you consider the risk for a maximum deduction is higher than 46% the shareholders will get an expected value of zero (assuming that the sale is approved).

 

Another thing that could happen is that you get screwed by the management somehow. They could for example not initiate voluntary liquidation after the sales (and proposed delisting from AIM). That would leave you in the mercy of the management and Texas minority shareholder protection laws. Up to you if you’re ok with that.

 

Disclosure: I have no position in RSOX.