Valuation of Oil and Gas Reserves Part 2 ($CFW)
Now the fun part, how do we go about valuing the reserves. A good place to start is with an estimate of the Enterprise Value (EV) valuing all securities at market. That way we get to compare on an equal level companies with different capital structures.
In this case, we will consider the debt and preferred at par, given that this is not a distressed company. There is no excess cash but there are hedges that are liquid investment that can be sold at market so we will subtract them from the calculation
- Debt: $43.7 million
- Preferred Stock: $25.1 million
- Common Equity: $50.2 million
- Hedges: $14.6 million
- Enterprise Value: $104.4 million
A first approximation to valuing CFW is to use multiples of Enterprise Value. The usual rule of thumb is the 1/3 rule: on average a barrel of undeveloped oil reserve is worth around 33% of the current oil spot price. At current prices that would be $22/BOE. There have been some transactions at close to $20/BOE but let’s be conservative and use $10/BOE.
- Proved Reserves: 49.1 MBOE
- Value of Proved Reserves: $490 million
That is almost five times the enterprise value. But hey, we are talking about waterflooding, a capricious process where we have uncertainty on its timing and its results. So let’s be conservative again and value only the proved developed
- Proved Developed Reserves: 10.1 MBOE
- Value of Proved Developed Reserves: $101 million
Interesting result, it indicates that at current prices we can buy Cano for just the value of their proved developed reserves. So anything, and I mean anything, that the Panhandle undeveloped waterflooding decides to give us is free. At this price Cano is a free option on the success of the proved undeveloped, probable, and possible reserves.
Another way of looking at this is to compare its enterprise value per proved reserves versus other companies. As an example I will compare it to Breitburn Energy Partners -BBEP, a company notorious for Seth Klarman’s investment, with a substantial proportion of gas reserves that are worth less than oil reserves, and currently undervalued against its MLP peers
- EV/Proved: $2.1 /BOE
- EV/Proved Developed: $10.3 /BOE
Breitburn Energy Partners
- EV/Proved: $9.8 /BOE
I have run these numbers against other companies and Cano Petroleum still looks cheap. Have also found other undervalued prospects but will leave them for another occasion.
I suppose my discounted cash flow friends are complaining that these methods are meaningless, since they do not take into account prices, costs and value of time. For you we are going to go through a third method in the next post, the most popular, the standardized measure and PV-10,
Disclosure: Long CFW