AMPY and SD

I have repurchased AMPY over the last few days as it seems that following the exit of Avenue Capital the shares were placed in weak hands and have since been re dumped on to the market. I won’t go into depth on the investment merits of AMPY except to say that at current prices, I believe the stock is deeply undervalued. I also believe SD remains just as undervalued.

AMPY

The shares initially rose following earnings only to tank as Avenue used the strength to exit their position as the fund they held it in liquidated. Bizarrely, they could have sold at $10 a few months ago since they knew their fund was sunsetting, but it seems clear they either were playing the stock market hoping for higher prices, or they simply could not care less. Not a stretch given it was a $20M position for a $25B fund. Complete rounding error! Since they exited, the stock has basically gone straight down to the tune of a 20% decline despite the XOP only falling by 2% since. Were the results that bad? In my opinion, no.

AMPY 2nd qtr numbers

The qtr was messy as Beta was still ramping up and natural gas and NGL price realizations were awful. Production numbers were OK, but LOE costs were not great, and G&A remains much too high. It was my understanding that G&A would trend below $20M over the year and clearly, we look to be closer to $24M. There is a lot of short-term noise, but they need to get G&A as it is much too high as a percentage of FCF and on a per BOE basis. They reaffirmed FCF guidance of $30-$50M. At $40M they would generate $24M in FCF for the remainder of the year. This money will likely be used to reduce debt which costs 9% right now! In addition, we got this statement on the call:

“So more likely to look at some portfolio optimization opportunities and look at free cash flow as a means to reserve some kind of return of capital program to shareholders. That's all to be determined going forward. And that's part of the kind of the strategic decisions that I mentioned that we would be discussing with the Board going forward.

As I mentioned, there's -- there are some requirements under the revolving credit facility that we need to obtain before we can resume returning capital to shareholders. But basically, that's part of the conversation that will be -- we have moving forward, and I fully expect to be able to update our shareholders by next quarter on our plans going forward.”

Portfolio optimization is clearly code for selling one or more of the assets. Clearly the Eagle Ford is the easiest asset to sell given its non-operated and throws off a lot of cash. The company has continued to see strong production from that asset as a lot of wells they have 10-20% interest in, that were drilled in 2012-2016 with old completion methods, are being re-completed at $5M cost with production coming in at near new well rates. Given their higher average working interest in the older wells, as they bring on new recompletions, they are writing up reserves in a material way. This asset has always had a limited reserve life so getting 40K a flowing barrel was a challenge but with these new recompletions, I am hoping they can get $40M for this asset. If not, I would rather they keep it. The other asset that is maybe getting dressed up for a sale is the Bairoil asset. It is a CO2 flood so technically it is much lower emission barrel, and it could get attention from ESG players. XOM just bought Denbury who has significant CO2 flood assets in Wyoming so this would be a great fit with them. So, the company clearly has some levers to pull to get debt down to less than $100M after which they can start a stock buyback.

They gave cumulative 2023-2025 FCF guidance at strip pricing of $200M. I don’t think anyone really believes them, so the opportunity is there to buy back stock and prove the market wrong. Not sure if they will get the opportunity though as I hope they pursue a breakup of the company and merger in early 2024. This is what makes sense for shareholders. What is my optimal scenario?

1. Spin off Beta - This is tricky, but I feel it has to be done if a sale of the company can be achieved. I would love to see the current CEO, M. Wilsherr be allowed to run this SpinCo and pay him 25% of any growth this asset can achieve in incremental FCF. He could make $2M per year if he can grow production. Currently, the company is currently being forced to put in more than $3M per qtr into the Beta decommissioning trust. By year end the trust will have $18M in it. My thought is they will need to prepay this trust to allow regulators to allow the AMPY Co to escape guaranteeing this liability. One thought/hope is if you can sell Eagle Ford for $40M, then that capital can be used to prepay the trust and get it to ~$60M at year end. This would hopefully allow for a spin off into a trust structure that can be traded on the OTC. This is simply to allow for a small 3-person board, minimize listing fees and other public company costs. The Beta spin off can generate impressive FCF. At 3,500 BOPD, $65 WTI and $25 LOE we get ~$51M in annual FCF. The decline rate is 8% per year. In addition, the trust could move to boost production by starting up the drilling program they contemplated in 2021. I would like to see them do this when WTI rises to above $80, and they can lock in 2 years of cash flow at that price to pay for the drilling costs and improve risk/reward of the program. In my opinion, the trust would trade at 12% FCF yield. If corporate costs are $5M per year, at $65 WTI we have $45M in FCF. Subtract $10M for continued payments to trust and we have a $35M FCF business and an implied EV of $290M. This is higher than the current market cap! Furthermore, it is highly unlikely that the decommissioning actually costs $180M, and as such the trust could be a significant asset in the future.

2. The remainder of the company should then be merged with a similar sized private E&P on a NAV to NAV basis to reduce G&A on a BOE basis. I believe without Beta the remainder of the assets would be attractive to plenty of other cash flow-oriented E&Ps. An alternative would be to merge with a cash rich company like SD who can immediately deleverage the balance sheet. In addition, SD has a lot of operational synergies with the MS Lime asset. The combined company could produce $90M in FCF at $70 WTI and $3 natural gas. I think this combined Co would trade at a 12% FCF yield or about $740M. Add the SD cash of $160M, after paying AMPY debt, and we get a market cap of ~$900M. If AMPY gets 25% of the new Co we get $225M in equity value and $675M for SD or about $18, a 20-30% premium for SD holders. The exact FCF is a ballpark estimate and assumed no Beta and no Eagle Ford at AMPY. Alternatively, AMPY might get more value by selling the Wyoming asset first for $140M and then be left with two simple assets, E TX and MS Lime.

Conclusion

The above scenarios can create more than $500M in equity value in early 2024 at modest $70 WTI and $3 gas. This is ~$13 per share. I don’t feel these are “heroic” assumptions at all.