Range Resources - At a Tipping Point

http://www.rangeresources.com.au/

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I first looked at Range Resources (LSE:RRL) in September when I concluded that the shares were cheap based upon their producing Trinidad assets. Approximately 10 months on and my opinion of the company has been firmly changed. Whilst it has not been a pleasant period for natural resource stocks, I have been disappointed by Range's progress and disagree with a lot of the strategic decisions they have made. In early July I made this clear by moving Range from buy to neutral at 2.85p, taking a hefty 45% loss. The company has since slipped a further ~10% and currently trades at 2.57p/share where it is capitalised at just short of £75m. There are a number of reasons why I decided to cut the losses even though there are some glimmers of hope.

This article is a follow-on from the below post. For full context and information, read this article first:
http://www.theel1tetrader.com/2012/09/range-resources.html


The technical position of Range's shares was one of the clear reasons why I decided to call it a day at 2.85p. As illustrated, Range is currently travelling along a steep downward trend line that eventually targets 0p/share. Of course, this is not going to happen so at some point the shares will break out and likely form a shallower upward/downward trend. However, it still looks like the shares have further to drop and indeed this has happened over the past couple of weeks. The sheer number of shares in issue combined with the total lack of meaningful support along with the stagnance that is usually attributed to many mergers/acquisitions means that it is difficult for upward momentum to be built. Furthermore, on many occasions recently the shares have been subject to sharp falls during auction periods, often which they do not recover from. Ultimately, the technical position of the company is still quite bearish and a likely target is as low as 2p. From there, I'd look for a steady price floor to be developed on the back of round-number support. Until then, it could continue to be a rough few weeks for Range investors even though the shares are down massively on a whole selection of timescales. The share price will also likely remain depressed during the period over which the merger takes place.

However, the real issues I have with the company are what it has done during 2013. The bear case is outlined below.

The first new direction was for the company to acquire a 'strategic' 19.9% stake in Latin America focused Citation Resources and 10% in Latin American Resources (LAR) . The Guatemalan blocks in question held 2.3 million barrels of oil with exploration upside. Clearly the resources are not huge, but Range noted that: "The strategic stake in Citation and LAR provides Range with non-operating exposure to a project with known reserves and significant short term upside potential, as well as creating the potential spin off vehicle for the company's Puntland assets." The method of the stake acquisition was through Range converting existing debt funding with Citation into shares plus paying $2m on top for a 10% interest in LAR. Along with the deal, a placement of 40m shares was completed. Clearly no dilution is good, but the issue I have with this deal is that the upside created by it is relatively small when compared to what could be achieved if Range actually focused upon their own portfolio.

Citation Resources LogoThe flip-side is that Citation through LAR does provide Range with both exploration and production upside. Indeed to an extent this has materialised with an oil discovery at Citation's Atzam #4 well initially flowing up to 1000bopd (during a flow test) where Range has an indirect 24% interest. Production at the well commenced in July at 100bopd on a small choke size and this has since increased by 40bopd to 140bopd. However, an issue with the deal is that Citation is short of cash hence has had to call upon Range to provide working cash for a short-period of time whilst finances are sorted. A further issue is that currently, off take agreements have not been concluded which has meant that oil has been stockpiled in on-site storage tanks pending their conclusion. This has subsequently meant that Atzam #4 has had its production rates artificially limited to prevent the quick filling of the tanks.  To date, the progress by Citation has been encouraging, but the negotiations for the sales of the oil have already taken a fair amount of time hence if these are strung out for a considerable period of time, production at Atzam will need to be suspended. A visible route to market combined with an upgrade of on-site storage is required before the Atzam well can be cheered about.

In my opinion, so far, the deal has resulted in Range having a complex corporate structure that often acts as a deterrent to investors. This combined with other news that Range has released means that reactions to the Citation success has been somewhat muted, and admittedly the upside that could be derived from this deal has not yet happened.

Another issue that is being dragged out is the company's Texan asset sale. During Q1 Range announced, "[An] agreement had been reached with respect to the sale of the Company's Texan interest with a total cash consideration of US$30m with US$25m payable at closing plus $US5m in royalty payments from future production. The Company is on track to complete in May with all key completion requirements signed off for payment." The May date has been well and truly passed and there has been an eerie silence from the company. The question now is whether the buyer is having second thoughts or whether the deal will eventually go ahead. At current exchange rates, the deal values the Texan assets at ~£19.5m which is not too far off fair value considering the current market conditions for production properties in the US. Regardless of this, the silence has created significant uncertainty and the cash buffer that the deal offers is being sorely missed as it would help the share price find a floor. The closing of this deal would present shareholders with a trimmed portfolio with a far healthier cash balance.

On the financing side of the company, in March Range announced that it had signed a $35m (subsequently increased to $100m) 5-year financing facility that would see a loan coupon of 12%. The loan coupon is evidently not pleasing, but given the current state of the markets it is the going rate for resource companies (give or take a few percent).

In Trinidad the company has failed to make any meaningful headway with a well entitled MD248 now becoming a bane of the company. The well was spudded in late August 2012 with an expectation that it would take 6-8 weeks to reach total depth. The joke is that as of today, 28th July 2013, the well has still not reached total depth following a whole series of delays and problems. Over 47 weeks have passed and yet there is no result which has been grating for investors. I noted in the initial review how Trinidad was the interesting asset of the company and the asset that should be pursued, but to pursue 39 weeks past the expected date either implies complete confidence that the well will deliver the goods, or that they took the comment too literally. Of course, the likely case is that they have had numerous positive shows throughout, and that the well is worth the extra time and effort that it has demanded. Overall, production at Trinidad has missed expectations and has disappointed.

However, the biggest shock came in April when Range and International Petroleum announced that they intend to complete a merger. The company's noted, "The merger will create a leading ASX & AIM listed oil and gas company with a strong production growth profile from the ongoing development of its significant reserves and resources base. The key near term focus of the merged entity will be the expansion and development of the projects in Trinidad, Russia and onshore Africa."

The merger with International Petroleum (IPET) would create a company with combined production of 1000boepd that would target 13000boepd by 2015 which is rather ambitious and put simply, is quite optimistic. However, the merger would see Chris Hopkinson become the CEO of the newly formed company which is very positive considering the vast experience he has had at various companies including BG Group and TNK-BP. The deal involves yet another placement of shares by Range which sees it's shares in issue rack up further towards 5 billion which over time is likely to put a cap on the share price. I'd be surprised if the board has not recognised this though. Therefore they may be looking to implement a reverse share split of 10-1 or more once the corporate side of the company has become less eventful. Under the agreement, Range will maintain its ASX and AIM listings and the merger ratio is Range 3:2 IPET.

A further point to note is that IPET's assets will not contribute much to Range's cashflows in the short-term. The merger announcement read that, "International Petroleum holds highly prospective assets in Russia, Kazakhstan, and Niger with total 3P Reserves of 233 mmbbls of oil and best estimate prospective resources of 761 mmbbls of oil and 157 Bcf of gas." The issue is that these are 3P reserves, which are rarely quoted in making valuations (which normally include Proved and Probable or 2P). Proved reserves only stand at 23.6 million barrels, which is substantially less. IPET's production was also set to reach 300bopd during the quarter which is rather uninspiring considering that same figure could have been achieved had Range focused solely on Trinidad. In addition, International Petroleum is in a bad state financially itself, with roughly AUD $52m in net trade payables, borrowings and debt. The obvious point is that with such huge trade payables, IPET might need to stump up cash at any moment, to cover any demands for cash by those owed. Furthermore, IPET's Kazakhstan asset has provided inconclusive results on all of its drills with no hydrocarbons encountered. Aside from Russia, IPET's portfolio is certainly risk-heavy.

But of course, there are two sides to every coin and there is a bull case that throws up glimmers of hope. The first of these glimmers was released on 24th July and revealed how IPET is looking to possibly sell its Russian assets for between £78m to £98m according to Range. If this is completed it could be used to wipe out the entirety of IPET's debt and leave the company with a nice cash balance that, if the companies merge, can be used to rid Range of some of it's financial woes. Furthermore, if the Texas sale does eventually go through, it puts Range in good stead and well placed to recover significantly. However, the success of the merged company does depend very much upon the completion of the Russian deal. If that falls through then uncertainty resurfaces and I wouldn't be interested in the slightest. Whether the Russian sale was a necessity or a choice remains to be seen, but if completed, the result would be beneficial.

courtesy of freedigitalphotos.net

Furthermore, if both deals are completed, the merged entity would have a streamlined entity with main assets in Trinidad and Niger and smaller assets in Georgia and Puntland among other areas. Yes, the forecast 13000boepd of production would have to be revised downwards considering 4000+boepd was being touted from the Russian assets alone, but the sale of them does make sense. Furthermore, if the upside within the P2 and P3 resources can be unlocked, then Range looks a good bet considering Niger has flexible PSC requirements and is adjacent to China National Petroleum Corp's (CNPC) block. Limited drilling has taken place in the area, but CNPC (one of the world's largest companies) have estimated that their block contains 708 million barrels of recoverable hydrocarbons, which is a very substantial resource. CNPCs output at the Niger Agadem field is also touted to be around 20000bopd. Activity is also picking up in Niger - earlier this year CNPC agreed an oil pact with Taiwan's CPC Corp to help explore the Agadem field. If IPET's block contains figures in the same sort of ballpark, then exploration upside is substantial. It is important to remember though that the Niger asset is a play on the Western Central African Rift System which is largely a wildcat area.

To compare, excluding the Texas assets, Range's P2 resources stand at ~27.5mmboe. The merger would see this value more than triple (including Russian assets). However, if the Russian asset is sold, it is impossible to deny that a huge attraction of IPET will be lost and the merged entity will have a greater emphasis upon exploration plays compared to producing assets. The impetus would then be for Range's Trinidad assets to step in and fund other projects. The potential here remains but it has largely been neglected in 2012 and the production there has been disappointing and declining recently. Range did recently announce that it had farmed into further blocks in Trinidad which complement their existing assets, and whilst I do not expect there to be material progress there in the short-term, it does increase the group's acreage and give it greater access to upside. It is important to remember that potential also resides with the smaller assets which include Puntland, Colombia and Georgia where Range also has a coal bed methane project ongoing. More on the bull case can be found in my previous review of Range. To cap the optimism off, Fox Davies has a buy recommendation for Range with a 25p target price and Beaufort Securities have reiterated their speculative buy stance for Range.

I have outlined the two cases above. Whilst the outcome of almost all of the proposed transactions can be debated, what cannot is that there is a huge amount of uncertainty around Range Resources and this is currently depressing the share price to multi-year lows. The uncertainties are not unfounded, but if they can be addressed then it is possible for the merged entity to create some upward momentum that can be built upon. The Russian asset sale is integral to the success of the merger as it helps to alleviate financial doubts, but that alone is unconfirmed and would not be able to turn around Range. What is needed is a careful review of all of the assets and a re-adjustment so that progress is made on all fronts rather than just a couple. If that involves further disposing of assets, then so be it. On a longer-term time frame, a reverse stock split looks essential as the post-merger number of shares is eye watering and is likely to deter both private and institutional investors alike. I cannot make up my mind about Range hence why I moved it off from a buy tag. The company is currently at a tipping point, but which way will it fall?

8 comments:

  1. A fair and balanced assessment of what is happening at range

    Thanks

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  2. Range has been a serial disappointer in my eyes but i am probably swayed by the dire share price performance. Time for a change at the helm and that looks to be coming from CH

    good luck to all

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  3. Every investor should follow this company just to see how these scenarios play out

    Cheers el1te

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  4. Great stuff man. So many derampers on the boards at the moment but range is not done yet

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  5. You say derampers, I say disgruntled investors, who have been here for a long while and watched as PL diluted the company and was economical with the announcements.

    A very well balanced piece and yes RRL is on the brink.

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  6. A fair assessment that highlights both the positive and negative aspects of ranges recent history.
    This may be a stock to watch closely over the coming few months

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  7. A very balanced analysis with one glaring omission. No where could I see any reference to the anticipated production uplift in T&T that would result from the enhanced recovery that should come to Range's T&T assets. This probability is supported by Range's statement that negotiations to enlist an outside service company and by various statements by the T&T authorities. There we have it with Range; a great deal of probability (or is it possibility) with a diminishing share price. All should become clearer very shortly now! Good luck to all that sail in her!!

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    Replies
    1. Hi there,

      Thank you for your comment. The initial review focused relatively heavily on T&T and the production potential that it holds. By any measure, production from there has disappointed and the mass of corporate issues including the arrival of Citation has meant that T&T has been neglected. However, if the Russian assets are sold and the merger is completed, then the emphasis on near-term production absolutely has to be on T&T. The potential remains but the merged management will need to dedicate more time and effort there compared to what they are doing currently. No doubt that has also been affected by the prolonger Texas sale.

      El1te

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