By: Malcolm Shaw
(Disclosure: The following represents my opinions only. I am not receiving any compensation for writing this article, nor does Hydra Capital have any business relationship with companies mentioned in this post. I am long AAV.TO and AAV.DB.H)
Advantage Oil and Gas (AAV.TO) has been a favourite Montney producer of mine for years. It’s a bit of an odd company in that it was an income trust that never really seemed to make the transition to being taken seriously by the “regular” equity crowd. In the past, whenever I brought up the name with anyone, some of the most standard responses were: “It’s dry gas. Pass.” or “The reserves are overbooked.” or “They have too much debt.” This is not a name that's enjoyed a lot of "love" from the street. It's had a bit of a move lately, and I think it's for good reason...
Now, it’s true that AAV used to be debt heavy, but these days, that’s just not the case. Through a number of cost cutting measures, along with some corporate reorganization (i.e., the spinout of Longview a while back), AAV now sits with a healthy 1.4x debt/CF ratio, net of all debt and working capital. That’s fine by me. AAV expects to maintain that D/CF ratio for the foreseeable future and the company maintains an active hedging program to ensure (as much as anyone can ensure anything in the market) the stability and predictability of future cash flow during the production ramp up to 245 mmcfe/d by H1 2018. Given that production was 132.5 mmcf/d as of Q3 2014, AAV is targeting nearly 100% production growth in about 3 years… all internally funded from bank lines and cash flow. Read that last sentence again. Very few companies can say that.
Advantage has executed as well as any team I have ever seen. A picture is worth a thousand words -- this one happens to be clipped from the company's corporate presentation:
(Disclosure: The following represents my opinions only. I am not receiving any compensation for writing this article, nor does Hydra Capital have any business relationship with companies mentioned in this post. I am long AAV.TO and AAV.DB.H)
Advantage Oil and Gas (AAV.TO) has been a favourite Montney producer of mine for years. It’s a bit of an odd company in that it was an income trust that never really seemed to make the transition to being taken seriously by the “regular” equity crowd. In the past, whenever I brought up the name with anyone, some of the most standard responses were: “It’s dry gas. Pass.” or “The reserves are overbooked.” or “They have too much debt.” This is not a name that's enjoyed a lot of "love" from the street. It's had a bit of a move lately, and I think it's for good reason...
Now, it’s true that AAV used to be debt heavy, but these days, that’s just not the case. Through a number of cost cutting measures, along with some corporate reorganization (i.e., the spinout of Longview a while back), AAV now sits with a healthy 1.4x debt/CF ratio, net of all debt and working capital. That’s fine by me. AAV expects to maintain that D/CF ratio for the foreseeable future and the company maintains an active hedging program to ensure (as much as anyone can ensure anything in the market) the stability and predictability of future cash flow during the production ramp up to 245 mmcfe/d by H1 2018. Given that production was 132.5 mmcf/d as of Q3 2014, AAV is targeting nearly 100% production growth in about 3 years… all internally funded from bank lines and cash flow. Read that last sentence again. Very few companies can say that.
Advantage has executed as well as any team I have ever seen. A picture is worth a thousand words -- this one happens to be clipped from the company's corporate presentation:
Production is up, completion costs are down, reserves are up (to about 1.7 Tcf), 3-year F&D costs are just $1.06/mcfe. I'm serious when I say that people should really take the time to go through the AAV slide deck linked here (http://www.advantageog.com/wp-content/uploads/2014/09/2014-November-Investor-Presentation-FINAL-11.19.pdf). It's quite worth the read.
Now, it's also true that AAV does have a pretty “dry” gas stream, but I’ve never been one to discriminate against a production stream because of the type of molecules in it – I’d prefer to focus on the profitability of that stream, which in Advantage’s case is highlighted by a cash flow netback equal to 80% of revenue. All of a sudden, the fact that it's dry gas somehow seems less relevant. Enough said.
Now, it's also true that AAV does have a pretty “dry” gas stream, but I’ve never been one to discriminate against a production stream because of the type of molecules in it – I’d prefer to focus on the profitability of that stream, which in Advantage’s case is highlighted by a cash flow netback equal to 80% of revenue. All of a sudden, the fact that it's dry gas somehow seems less relevant. Enough said.
As for reserves, well, I just don’t see the “overbooked” argument. There has never been anything about AAV’s reserves that has had me thinking twice about the resource potential of the company’s flagship Glacier asset or its ability to see additional reserve growth. In my view, anyone looking at Glacier with experience in the sector will recognize it as a “Tier 1” asset, full stop. There’s no way to convince anyone of that in a short write-up like this… all I can do is point people towards the most recent corporate slide deck (linked above) so that they can form their own opinions. It would appear that there are actually "TCFs" of additional potential.
Putting those historically dismissive comments aside, I think that people looking for premium gas exposure should read AAV’s most recent quarterly update (http://www.advantageog.com/wp-content/uploads/2014/09/Q3-2014-Press-Release.pdf) and really have a hard think about whether or not this might be a name worthy of a little more attention. There are some interesting tidbits in there, not the least of which are the results from the company’s Middle Montney program, where one of their wells tested at 13 mmcf/d plus liquids and is still producing at a restricted rate of 5 mmcf/d plus liquids at 7600 kPa 8 months later...
I’ll finish my rant with the following slide, which is also taken from the AAV November 2014 slide deck linked above. By the winter of 2017-2018, AAV expects to be producing 245 mmcfe/d, which would generate $160 million in annual free cash flow at $3.65/mcf AECO. At that point, AAV would almost certainly turn into a dividend payer. With those kinds of numbers, I think AAV has a lock on a $10-11+ share price 3 years out and, based the confidence instilled in me by management’s execution thus far, all I have to do it sit and wait.
I wish all my holdings were this straightforward...
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