VAALCO Energy, Inc. — Q3 2019 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2019. VAALCO is an independent oil producer, with substantially all current production and revenue from its operated Etame Marin fields offshore Gabon. Angola is reported as discontinued operations; Equatorial Guinea’s Block P is undeveloped.
Financial performance and position
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Revenue | $17.6m | $25.3m | $62.6m | $77.3m |
| Operating income | $1.5m | $17.3m | $13.4m | $36.1m |
| Net income (loss) | $(3.9)m | $78.6m | $1.5m | $87.8m |
| Net income (loss) per diluted share | $(0.07) | $1.28 | $0.02 | $1.45 |
| Cash from operating activities | — | $29.1m | $36.0m |
Q3 2019 operating margin was approximately 8.5%, compared with 68.5% in Q3 2018; the prior-year result included a $3.3m gain from an asset-retirement-obligation revision. Nine-month operating margin was approximately 21.4%, versus 46.7%. The 2018 net income comparisons were also boosted by a $66.6m deferred tax benefit; 2019 results included higher tax expense, including a valuation-allowance charge.
- Q3 oil and gas revenue fell 30% year over year, reflecting lower realized price ($61.26/bbl versus $75.40) and lower sales volumes (279 MBbl versus 329 MBbl). Nine-month realized price averaged $65.00/bbl versus $72.55, while net production was 932 MBbl versus 1,027 MBbl.
- Q3 production expense rose 32% to $9.8m; nine-month production expense declined 11% to $27.9m, primarily due to lower workover costs.
- At September 30, cash and cash equivalents were $57.2m; cash, restricted cash and abandonment funding totaled $70.0m. Unrestricted cash included $11.8m attributable to joint-venture owner advances. Current assets were $74.5m and current liabilities $58.3m.
- There was no outstanding debt. Nine-month capital expenditures were $3.4m cash basis and $8.4m accrual basis. Treasury-share purchases used $2.4m of cash.
- Operating lease liabilities totaled $36.8m after adoption of the lease standard. The adoption materially increased reported assets and liabilities and reduced working capital, but management reported no material effect on earnings or cash flows.
Material changes, outlook and risks
- Production was affected by a nine-day planned FPSO shutdown in August, natural decline and outages at three wells. Etame-4H stopped producing; N. Tchibala-2H did not resume natural flow after an acid treatment; and Etame-10H’s ESP failed in September. Management was assessing remedial work at N. Tchibala-2H and planned an Etame-10H workover in the first half of 2020.
- The 2019/2020 Gabon drilling campaign began in September. The Etame 9P appraisal well was completed in October and encountered oil sands in the Gamba and Dentale reservoirs. Drilling of the Etame 9H development well then began. VAALCO planned two wells and two appraisal wellbores by September 16, 2020, at an estimated gross cost of $68.5m ($23.0m net to VAALCO); a third development well was possible, subject to approvals.
- Management said cash on hand and expected operating cash flow at current prices should fund operations and cash requirements through December 31, 2020. The company expected 2019 capital spending and repurchases to be funded by cash and operating cash flow. This outlook is sensitive to oil prices and operating performance.
- VAALCO had oil swaps covering approximately 394,735 barrels at a weighted average fixed price of $66.70/bbl for 2019–2020 settlement periods. The swaps are economic hedges, not hedge-accounted, and can limit gains if prices rise. A $5/bbl price decrease at recent quarterly sales volumes was estimated to reduce quarterly revenue and operating income by $1.4m.
- A $4.4m net settlement of legacy joint-venture audit claims was expensed in Q2; $1.1m was paid in October, with the remainder expected in the first half of 2020. The Angola settlement generated a $5.7m after-tax gain in the first nine months; the $4.5m payment was made in July and the related $3.3m receivable was eliminated.
- Gabon notified VAALCO in October that it would take its 13% royalties in kind beginning January 2020. Block P carries a $10.0m book value; VAALCO was awaiting approval of a new joint owner and its appointment as operator. Failure to drill an exploration well within the required period could result in loss of the license and impairment of the recorded costs.
- The company disclosed that its disclosure controls were not effective because of a previously identified material weakness in controls over income-tax analysis for significant, unusual and infrequent transactions. Management had hired additional tax expertise and expected remediation during 2019, but stated it could not assure successful remediation.
- Key risks include oil-price volatility, well and FPSO operating issues, reserve uncertainty, Gabon regulatory and audit matters, foreign-exchange exposure, and the ability to finance development. Management reported no material changes to previously disclosed risk factors.
Most important facts for investors to verify
- Whether the Etame 9H and remaining planned wells/appraisal wellbore were completed on schedule, within budget and with commercially meaningful results.
- Current production and repair status for the three affected wells, including whether planned workovers restored production.
- Cash availability after distinguishing unrestricted company funds from joint-venture advances and restricted abandonment funding; also monitor working-capital effects of lease obligations.
- Realized oil prices, lifting timing, production volumes and the financial effect of Gabon taking royalties in kind from January 2020.
- Completion of the $4.4m joint-venture audit settlement payments and progress in remediating the disclosed internal-control material weakness.