A Transglobe Rerate is in the Cards

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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 TGL.TO

I flagged Transglobe Energy (TGL.TO, last at $1.14) recently and was wary about posting my numbers because (a) I’m just a guy with a calculator, and (b) I didn’t want to look like an idiot if I was way off base. After having listened to Transglobe’s webcast presentation today on their newly renegotiated “Petroglobe” deal in Egypt, I’m comfortable enough to post the numbers as they come straight from the horse’s mouth. In a word, TGL’s newly renegotiated production sharing contract is truly “transformational”. It’s a win for TGL, it’s a win for EGPC, it’s a win for Egypt. By restructuring the fiscal terms of its contract and blending three prior contracts into one, a whole new world has opened up for TGL in its Eastern Desert concessions. I’m only echoing CEO Randy Neely’s sentiments by pointing out that while TGL has no doubt had a nice move up off its lows, I believe there appears to be a long way to go before this new deal is priced into the stock…

I’m a simple guy, so I’m going to post some simple math here. TGL has 72.5 million shares outstanding and positive working capital of CDN$17 million as of its Q3 report (which is still the case). That gives it a market cap of CDN$83 million at its current CDN$1.15 share price. Taking off the positive working capital, the enterprise value (EV) today is about CDN$66 million.

Cash flow is easy. Under the prior contracts, TGL was getting a netback of ~US$6/bbl at the current US$50 Brent price. Now they are getting a netback of ~US$14/bbl, period (i.e., netbacks just went up 125% and it’s all increased margin to TGL). If I call current production 11,000 bopd, that’s about 4 million barrels a year of production. So to boil it all down, what was annual cash flow of US$24 million goes to US$56 million on the back of this deal. That’s CDN$70 million for those like me who deal in Canuck bucks.

Remember that EV of CDN$66 million? That makes TGL’s EV/CF multiple, on current production and current prices, 0.9x. Just for reference, if something trades at 2x EV/CF it’s generally considered “dirt cheap”, which means that TGL currently trades at “half of dirt cheap” by my math.

Now I don’t know about anyone else, but my personal view is that production under this new deal is going to increase significantly and that oil is going to at least $60 by the end of next year. So, if I have a little patience, it’s not at all crazy to think that in 2022, TGL might be doing something like 15,000 bopd in Egypt with a US$18/bbl netback. That would generate US$100 million (CDN$130 million) in cash flow, which would leave TGL with significant free cash flow, even after its US$10 million/year capital spend commitment and $10 million/year (both for 5 years) bonus payments to EGPC (note that the first $15mm bonus payment will be more than offset by the retroactive nature of the deal once the deal is ratified by parliament in H1 2021). I believe that’s a “when” not an “if” given TGL’s long presence in Egypt, its strong relationships with the government and regulatory bodies there, and the amount of time and care taken by both sides in crafting this landmark deal. My “modest” (?) growth case above would have TGL trading at 0.5x EV/CF by the end of next year if the stock is still CDN$1.14. For that reason, I strongly suspect that the share price will change to my benefit over the coming quarters. If TGL can even get to a 2x forward EV/CF multiple, I think I’m going to be looking at a CDN$3 stock by this time next year, maybe a lot sooner depending on how fast the market picks up on it… and at that price, TGL would still look cheap given its growth rate and free cash flow potential. At 3x EV/CF the stock would be worth some $6/share and almost nothing trades with a 3x multiple out there any more unless there is something very wrong with it… and from what I can see there is absolutely nothing wrong with TGL…

So, yes, Virginia there is a Santa Claus… and this year Santa has put a nice chunk of TGL in my portfolio while tax loss sellers and people without calculators allow me to relieve them of stock at bargain levels. Maybe next year I’ll open it up and see how it has done, but in the meantime I can wait. For completeness, I should point out that I haven’t even discussed the company’s Canadian oil assets in this note, because I don’t have to in order to make my “dirt cheap” case… but that’s not because they don’t have value. I’ll just consider them a free stocking stuffer to look at later…

Happy hunting.