Nostra Terra Oil & Gas - Funding Constraints Relaxed

http://www.ntog.co.uk/home/


It has been over a year since I last covered Nostra Terra Oil & Gas, a small cap producer in the US. Given the price movement and slow progress that has happened at the company since, my move to book a ~50% profit back at the heights of 0.59p looks to have been the correct one, with the share price now substantially lower at 0.31p. It has been a terrible past year for the oil and gas sector and that has been linked to a general move away from commodities in favour of more profitable, cyclical sectors. Whilst that has not directly impacted the junior market (as these stocks are more prone to move with speculation), it has made it more difficult for these companies to access capital on good terms as investor sentiment in the sector is relatively low. Nostra Terra is no exception, but operational progress has also been incredibly slow and confidence has weakened. At 0.31p, and with 2.78 billion shares in issue, Nostra Terra is valued at £8.47m.


The technical outlook for Nostra Terra is certainly an interesting one. Bearing in mind that the company has produced many false dawns from a charting outlook, it's important to condition any movements. The share price currently stands at 0.31p which is marginally above the important 0.30p resistance. The company has been hitting up against that level over the past few weeks but failing to break through, but with the help of a couple of news statements it has managed to do so. Assuming the price does not spike back through 0.30p, the outlook is pretty positive although it is far from assured. There is long-term overhead resistance around 0.325p (and declining), and two resistance bands at 0.35p and 0.40p respectively. The former band is weak seeing as it has no historical backing, but the 0.40p level has plenty of historical backing so it would be a very difficult nut to crack. Coupled with stale bulls wanting to sell out around that level, it would require exceptional news for it to break through that level. Nonetheless, if the price can stay above 0.30p and at least consolidate through the downward resistance, then the share price movement may have started to change direction on a medium-term timescale, with the succession of higher lows.

If the share price fails to hold above 0.30p, it is likely that it will pass through the upward sloping support and follow the long-term downward resistance towards 0.25p. Essentially, it needs to stay above the upward sloping red support line to prevent a further fall in the share price. Early indications are good, but it could turn out to be a false break if it spikes back again.

To start the fundamental analysis I'll recover a few of my closing comments on my previous Nostra Terra articles. The concerns that I stated before were two-fold. Firstly, I wasn't convinced by the company's production reporting methods. Nostra often release their 10-day average production rates from the oil wells and given that the wells follow steep decline curves (the curve which maps out how oil production falls over time, it was always likely that the later production figures would disappoint in relation to these initial rates. Indeed that has been the case, and a lack of transparency (in the past) over production rates has been a real obstacle to sparking investor interest  Given the operational performance of the company over the past year, I reckon it's fair to look at the company's position with healthy skepticism.

The second concern was that the company was in a weak financial position, and so any investment was based purely on technical movement and short-term sentiment swings and not on longer-term fundamentals. That has partly proved to be the case as dilution has taken place, although certainly not to the scale that I previously expected. In fact, one positive that has sprung up has been from the court judgement between Nostra Terra and Richfield which awarded $1.5m+ to NTOG. In May, Nostra Terra received an initial $200,000 from Richfield before then buying up some of their assets in a fire sale. A further $1.15m of the outstanding debt was released to NTOG in October, and another $150,000 in December. An additional $210,000 was awarded to the company in a later judgement, and that is overdue from Richfield. Ultimately, these ongoing cash payments have reduced the need for cash injections over the past year, and that has led to anticipated dilution not coming to fruition. That is positive, although the number of shares in issue remain very high.

A very interesting development materialised in early February as well. The company signed an agreement with Texas Capital Bank for a $25m loan facility to help fund and expand their US projects. However, the announcement was thin on detail thus the market was somewhat hesitant to accept it as a game changer. These details were given:
- Interest rate of 4.25%. This is  low and thus a very good rate to be borrowing money at
- The facility carries no warrants, thereby meaning that there is no future dilution
- An initial borrowing base of $500,000. This is the negative. A $500k borrowing base is low and won't (on its own) help Nostra to expand their activities significantly. Given that more tranches of the $25m are unlocked at various production levels, this is a catch 22 scenario. Nostra (probably) needs more cash to reach the higher production cash release levels in a reasonable time frame, but it can only have that cash released if those levels are met
- The borrowing base was based upon the top 5 wells, not the entire well portfolio. There are two ways to read into this. The first is that there is scope for further cash to become unlocked if Nostra show Texas Capital their potential, but the second scenario is that these top 5 wells are more reliable in the eyes of Texas Capital and a lot of the smaller wells are not sufficiently large to give cash backing to. Nevertheless, some of the intermediate wells probably are sufficiently large

CEO Matt Lofgran commented: "We're pleased to be able to secure such a strong facility on very good terms for the Company. While we have always been cautious about debt, and will remain so, this facility will give us the ability to quicken the pace of growth through non-dilutive funds. We're happy to have the validation of a strong and conservative, Texas-based institution that is well known in the industry. With the granting of such a large facility its clear the bank supports our growth plans, which we have demonstrated over the last 12 months."

Overall, the introduction of the loan facility is a clear benefit to the company in the short and medium-terms. The biggest question is whether or not they will deploy the cash efficiently such that it enables them to repay the loan, scale the business up, and make profits over the period of time whilst that had it. As it stands, the real market reaction would come if they can unlock a much larger proportion of the cash. Until that happens, the $500,000 available is small fry in the scheme of things.

Operationally, over the course of the year Nostra Terra has been increasing its working interests across its portfolio at both their Chisholm Trail property and their High Plains property. This is without question an improvement in the business model. Whilst those working interests are still far from material enough (across most drilled wells), what has been the case in the past is that NTOG has taken up extremely small working interests (x < 10%).

These wells have found hydrocarbons and have produced, but the results is that the net production rate to NTOG has been tiny and unless you drill a huge number of wells very quickly, shareholders will not see a return. Therefore it doesn't really matter if the well beats expectations (as some have done), because the change in revenue created from that well is immaterial. The reason being that the decline rate of each well means that they may need to be re-worked which requires more capital injection so you end up with a flow of cash that doesn't return to investors as there are no real surplus cash flows - they are all recycled back into the business. New lease purchases are required to counter depletion. The simple diagram above illustrates this.

In fact, Nostra Terra have admitted this: "Company remains cash flow positive on an operational basis, with excess cash being re-invested in new wells." Given the natural restrictions associated with a poor balance sheet with a lack of cash, NTOG was unable to break through the cycle and outrun the decline curve. It probably still doesn't and the only way to change that is to take larger working interest so that production revenue is more meaningful. Yes, there will be larger up front costs, but the payback would be improved in the case of success (which the wells drilled have turned out to be, to varying productive degrees).

Importantly, Matt Lofgran is starting to recognise that and is suggesting that Nostra will take its largest stake in the Chisholm Trail during the next well: "Ward has also been making preparations for its next operated well where we anticipate Nostra Terra will have its largest Working Interest yet." That should mean a stake in excess of the 12.58% of CT-3. That's still not a huge working interest (let alone net revenue interest which takes away roughly 20% of that figure) though so the cash available through Texas Capital Bank should be deployed to either improve working interests within the Chisholm Trail or to seek out a promising, geographically close asset that does carry the opportunity for higher interests.

As a result of the low working interests, the interim results released in September (for the 6 months ended 30th June) didn't make for particularly good reading although they showed a clear improvement year-on-year:
- Revenues up 156% to £415,000
- Tangible non-current assets of £486,000
- Net current assets of £724,000. With the influx of Richfield cash, this should have improved since
- Net operating cash outflow of £636,000
- Net investing cash outflow of £549,000

The last significant piece of the puzzle as to why the share price has declined since early 2013, is seen in the quarterly report released in January this year. Despite production rates being ahead of schedule, they totalled a lowly 60 boepd (albeit 80% oil and 20% liquids). The flow rates when comparable over the year illustrate the point about needing to outrun the decline curve. As shown on the left, the production rates greatly reflect the amount of money put into the assets over a period of time, and how quickly those levels can drop off if investment into new wells is not continuous. Perhaps the introduction of the Texas Capital Bank deal marks a change in strategy whereby funds can be accessed to allow for an improved production profile through that continuous investment required.

At the end of the day though, NTOG will always be valued in comparison to its closest peers - the mid cap US oil and gas producers that include Northcote Energy, Caza Oil & Gas, Magnolia Petroleum and Empyrean Energy. The table below outlines the basics of these companies, and whilst the numbers are not directly comparable for a number of reasons, it gives a good insight into what the market offers investors in the sub-sector.

NB: Boepd can account for gas flows (which bring in much less revenue) so the figures are not directly comparable



At the current point in time, I'd be inclined to say that Nostra Terra is at or near fair value. The shares in issue do remain an obvious obstacle to investor confidence, so I would re-iterate that a method to reduce this number (perhaps a 10-1 reverse stock split) would be worth the effort, even if only from a perception point of view. It currently lies in the top 60 LSE companies with the most shares in issue, and a fair number of the companies above it are large cap stocks such as GlaxoSmithKline and Taylor Wimpey. In fact, if you impose a restriction to limit the market cap to companies less than £50m, it's one of only 18 companies with more than 2.75bn shares in issue.

However, as explained above, that is not the crux of the problem. As it stands, Nostra Terra is not an all-out exploration company so it certainly won't attract speculators hoping to profit off a large rise on the back of one of their drills with a tiny working interest. They know that won't happen. They must therefore be based on production grounds, and so far they have disappointed. As mentioned before, the Texas Bank deal is a potential game changer but not unless it is used responsibly, and first and foremost, that the money is unlocked. Taking up larger working interests is the obvious method to change the business model and even though this is higher risk, it is still fairly low risk in absolute terms (within the oil and gas sector). Am I convinced about Nostra Terra? Not yet - the company needs to continue demonstrate that this marks a turning point in the company's operational history in order to win back investor confidence and show that this is not just another false dawn. Regardless, the Texas Capital Bank deal offers a potential lifeline if the funding constraints can be lifted, and a change of direction to higher working interests could prove more rewarding than the previous strategy. No Rating.

9 comments:

  1. Thank you!!!

    Its so good to hear a refreshing unbiased view on Nostra Terror. Helps keeps the duck in check and the expectations realistic

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  2. I totally agree with your final words el1te. It is too early to say that the TCB agreement is a revolutionary change because only $500k or a fiftieth of it has been actually granted.

    Higher working interests are the way forward and because of fracking there are a lot of good acreage buying opportunities for nostra terra. The cold snap across the USA has driven up gas prices but there is plenty of opportunity for nostra terra to buy a solid asset for $5m tha has big potential. I see that Matra petroleum are going to start focusing on the USA.

    Great piece and fair. CraigJ

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  3. Hello. A posted has added this link to the LSE bulletin board. Thanks for putting this together as it is good to get an overview on the company from an outside perspective. Only then can Matt Lofgran know what the wider investment community think

    TradeInvest

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  4. The bottom line is that need to increase production. Spot on with your call last year

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  5. As usual, excellent research. I have to admit to losing patience with this and got out after holding for 2 years. Interesting insight into the practical problems faced by gas and oil producers. Thank you El1te.

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  6. Classic dictionary Dick getting angry on LSE when he can't see what is really happening at NTOG. The share price has crumbled, confidence has crumbled, and the share price is near its 0.23p low. No wonder the market is not convinced.

    Good article. You were right last year. You are probably right again this year. DO SOMETHING ML

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  7. Great write up thank you

    I'm sure spacemen, Billy, scubadoo etc will find fault as the trio always do.

    I appreciate the detail and your efforts.

    I wonder what the great word player, ML, will have to say about it. He says on Twitter, he'd speak to you if only he knew who you were?

    An interview with you would be better than many other 'share tippers' (bmd or doc) as they fall for ML's false promises and clouded aspirations time after time

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  8. good call el1te. keep up the good work

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