VAALCO Energy, Inc. — 2017 Second-Quarter Form 10-Q
Business context and reporting period
Unaudited results cover the three and six months ended June 30, 2017, compared with the same periods in 2016. VAALCO is an independent oil producer whose principal producing asset is the Etame Marin block offshore Gabon. Equatorial Guinea is undeveloped; Angola is reported as discontinued operations following the company’s withdrawal from its production-sharing contract.
Financial results and liquidity
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Oil and gas revenue | $20.4 million | $18.8 million | $41.7 million | $29.8 million |
| Operating income (loss) | $5.6 million | $4.6 million | $13.7 million | ($8.9 million) |
| Income (loss) from continuing operations | $2.5 million | ($0.5 million) | $6.9 million | ($15.9 million) |
| Net income (loss), including discontinued operations | $2.3 million | ($0.5 million) | $6.5 million | ($8.1 million) |
| Net income (loss) per diluted share | $0.04 | ($0.01) | $0.11 | ($0.14) |
- Q2 operating margin was approximately 27% versus 24% a year earlier; first-half operating margin was approximately 33%, compared with a loss in 2016. These are calculated from reported revenue and operating income.
- First-half operating cash flow was $2.6 million, including $6.6 million from continuing operations and $4.0 million used by discontinued operations. Investing cash outflow was $0.8 million and financing cash outflow was $1.6 million. Cash and cash equivalents ended at $20.6 million, up $0.2 million from year-end 2016.
- At June 30, cash was $20.6 million; current assets were $38.4 million and current liabilities $48.3 million. These totals include discontinued-operation balances. Restricted cash was separately reported.
- Debt principal was $13.3 million ($13.0 million net of deferred financing costs), compared with $14.4 million at year-end 2016. The IFC term loan bears interest at LIBOR plus 5.75%, matures in June 2019, and has no further borrowing availability. Principal repayments due were $4.1 million for the remainder of 2017, $6.7 million in 2018 and $2.5 million in 2019. The company reported covenant compliance at quarter-end.
- Asset retirement obligations were $18.9 million. Shareholders’ equity was $6.9 million, versus a deficit of $0.4 million at year-end.
Material changes versus prior periods
- Revenue rose 8% in Q2 and 40% in the first half, primarily because realized oil prices improved. Average realized oil price increased to $46.83 per barrel in Q2 from $40.79, and to $49.35 for the first half from $34.40. Sales volumes declined: first-half Gabon net production was 813,000 barrels versus 834,000.
- Q2 production expense increased 34% to $9.9 million, reflecting increased ownership following the Sojitz acquisition, regulatory costs and FPSO cost escalation. First-half production expense declined 4%, mainly because 2016 included workover costs.
- First-half operating results improved substantially from 2016, which included $9.6 million of other operating expense, primarily rig demobilization and related items. The 2016 discontinued-operations result also included a $7.6 million bad-debt recovery and $3.2 million of interest income; 2017 discontinued operations recorded a $0.3 million loss.
- First-half continuing operating cash flow improved from an outflow of $14.4 million in 2016 to an inflow of $6.6 million in 2017. Total operating cash flow improved less, as discontinued operations used $4.0 million in 2017 versus providing $16.0 million in 2016, which included a $19.0 million partner payment.
Outlook, risks and unusual items
- Management said that, assuming oil prices remain at current levels and other factors are unchanged, cash on hand and operating cash flows should support operations and cash requirements through September 30, 2018. The filing provides no numerical production or earnings guidance. Financing for future capital projects is described as limited.
- Management expects lower production in the quarter ending September 30, 2017 following July maintenance. An ESP failure temporarily shut in the South Tchibala 2-H well; a workover was expected in the following months, and management was considering additional workovers. Related maintenance and workovers are expected to raise production expenses in the third and fourth quarters.
- Oil puts covered 360,000 barrels of anticipated sales from July through December 2017 at a weighted-average price of $50 per barrel. Their June 30 fair value asset was $1.2 million. They are economic hedges, not designated for hedge accounting.
- The company has a $15.0 million accrual for a potential Angola drilling-obligation payment. It is negotiating with Sonangol E.P. and believes the ultimate payment will be substantially less; the amount and timing remain uncertain.
- Gabon had not resumed agreed monthly VAT-receivable payments after one installment in July 2016. The company recorded further allowances for the receivable. It also expected a $2.3 million net abandonment-funding payment in December 2017; total estimated undiscounted abandonment cost is $19.0 million net to VAALCO, of which $8.5 million had been funded.
- The company received NYSE notices in April and June 2017 for falling below the $1.00 minimum average share-price requirement. It had six months from the June notice to regain compliance. The filing says the notice did not trigger a debt default or affect operations.
- Disclosure controls were deemed ineffective because previously reported material weaknesses remained, including weaknesses in financial-report review and account reconciliations and in the physical count of operating spares. Management was pursuing remediation during 2017 but gave no assurance of success.
- The company reported compliance with loan covenants at June 30, but future compliance depends on prices, production, capital-program returns and interest costs. Other key exposures include oil-price volatility, Gabon operations and government matters, and limited access to replacement financing.
Important facts for investors to verify
- Whether the company maintained NYSE minimum-price compliance and completed remediation of its internal-control material weaknesses.
- Actual production, lifting volumes, realized prices and workover outcomes, particularly for South Tchibala 2-H, and their effect on third- and fourth-quarter costs.
- Cash generation relative to debt installments and the conditional liquidity outlook through September 2018, including covenant compliance and access to replacement financing.
- The final outcome and payment obligation related to the Angola drilling commitment, and progress on collection of Gabon VAT receivables and abandonment funding.
- Whether the oil sales contract expiring in January 2018 was extended or replaced on comparable terms.