Rockrose Energy was floated in 2016 with a raise of £4.4m. The plan was to acquire oil producing assets and it has since completed a number of acquisitions, most recently the North Sea assets of Marathon Oil.
The stock has performed exceptionally well since listing, and currently trades with a market capitalisation of c.£275m (though total shares in issue have circa tripled since listing for acquisition consideration funding).
The recent deal is, in our view, exceptional – there is some complexity about cash balances (some are restricted for future decommissioning spend), but taking a very conservative view of decommissioning costs and liabilities (which have so far reduced under RRE’s ownership), RRE acquired the shares for $95m but inherited cash and working capital on the balance sheet of the acquired entities to the tune of $350m. Hence the consideration could be read as a –$255m!
Currently the business’s EV positions are as below
|Free Cash||282||1st July 2019, $m|
|Debt||–||1st July 2019, $m|
|Equity Value||318||1st Aug 2019, $m|
The combined entity now produces c.21 kboe/d across oil, gas and liquids. With prices around $65 boe (and maintaining similar spreads across gas and liquids), we would expect this to conservatively generate operating profits in the region of $120m – $160m a year. Taking $120m would imply the share trades at an operating profit to EV of 0.3x. Adding back c.$60m of depreciation would give an EBITDA to EV of 0.2x.
There are few listed businesses that are genuinely the same profile to RRE (eg North Sea assets, acquired from majors) – the closest is definitely SQZ and maybe PMO and HUR at a push (as North Sea oil plays).
RRE appears very cheap in comparison. Though it is probably worth noting RRE opex costs per barrel sit around $30, whereas they are about $15 for SQZ. This difference will explain some of the pricing discount, though we do not think it merits such a material level.
Moving away from the financials… If you haven’t seen or read any interviews with Andrew Austin, we would recommend it. He is very deal hungry, with a proven track record of putting together some great plays (note his efforts to purchase the debt of Independent Oil & Gas earlier this year out of a complex administration scenario). But he has also openly spoken about what he perceives as the discount to intrinsic value for the group and has discussed taking the business private. With management’s very high holding (c.30%) and the large cash balance – we would not be surprised to see management consider a ‘take private’ if the gap to intrinsic value doesn’t close – even more so if no new deals are forthcoming.
We are led to 2 questions – why has it worked so well? and why hasn’t the share performed as well as we expected on the relist? In turn…
- With our investing ‘checklist’ hat on we think the answer to number 1 is probably down to management skill and alignment – the team own such a big portion of the group and are clearly excellent at their jobs – a strong mix of skill and will. They’ve taken the group from a cash shell to a major player in the North Sea space with nothing but their own deal making skills. It’s a pain, because it is so difficult to assess management quality at the outset (particularly if only vaguely familiar with the industry and with no insider contacts) – but something to continue to bear in mind and search for in potential investments.
- We think the issues here lie in the sector being massively out of favour generally. The long term (eg 20 year) cash earning potential of the group is perhaps in doubt given the current oil reserves, and as an industry this is also arguably the case. We believe such a low discount must present a buying opportunity, even on a liquidation basis. However, we would not expect to see a material re-rate to more than 3-4x EV to EBITDA due to the current market sentiment felt towards the sector.