Tenaz Energy TNZ.TO

Tenaz is currently my largest position, and by far. I bought alot of shares at an avg cost of $2.25 and have held them all since. The majority of my account is now Tenaz due to the 10x in price (the fact I went 50% in at the time was a great move, but in hindsight maybe too aggressive, but I guess with foresight I should of gone further in!). Either way, the fact a large bet has moved so much and my other bets have moved very little, means I am sitting on alot of allocation to Tenaz (one win pays for them all). Its a nice situation to be in to try and find things which I'd like to sell Tenaz for. In order to sell I will incur the dreaded CGT which will go to Sir Kier (terrifying). Its hard for me to sell any shares now given the opportunity set I see out there as I compare to what I think Tenaz will bring to the table in terms of more deals and unlocking the asset potential within there current DNS assets.

My VIC write up on Tenaz which was declined when it was 3.90

Summary

Tenaz Energy is a Canadian based junior E&P with a solid base of cash and cash flows to back up its valuation today, with an overqualified management team who have distinct competitive advantages in executing on there stated M&A objectives in; Europe, LatAm, and MENA regions.

Tenaz Energy was formed out of Altura Energy in late 2021 from members of the c-suite teams that made up Baytex Energy from 2004-2012, and Vermillion Energy from 2012-2020. Both companies were operated very well providing solid returns to shareholders vs their Canadian mid-sized peers. Tony Marino is CEO of Tenaz and was COO of both Baytex and Vermillion before becoming CEO and President of both in the last half of his tenures. During his time at both he managed to increase production per shares, reserves per share, and decrease G&A per bbl consistently over time. I.e. he and his team have a proven record of operating mid-sized E&P companies effectively, whilst growing shareholder value and stamping out costs as the business scales up with growth.

As Tony and team re-capitalized Altura and formed it into Tenaz Energy they put up $5mm of their own capital at $1.80. In total around $29mm was raised, with the rest being made up from institutions and a rights offering to retail.

Tenaz also comes with a stacked board of directors. Including the ex-CEOs of Seven Generations Energy, and Ukranafta (also was ex Snr VP at BG Group). They also have an ex KPMG partner, and ex-President of GMP First Energy, and a newly hired Eastern European energy lawyer. So far since the re-cap in October 2021 Tenaz has grown production almost 3x, decreased the share count by 5% through a well-managed buyback, and improved the balance sheet through working capital acquired and cash flows from increasing production.

Quantitative Factors

There are 26.8mm basic shares outstanding, with management owning 9.2% and 21.9% of basic and fully diluted shares. The share count is tightly held, and the stock is a thin trader for the most part. Management have stated in recent messages that they intend to issue as little equity as possible in future transactions. I suspect they want to maintain their ownership interest as much as possible. As of Q3 the company had no debt and $50.8mm in cash, and a further $31.7mm in restricted cash (which we will exclude in EV calculations). The company has a $27.4mm tax bill due in May 2024. The expectation is that a lot of this tax bill will be paid for with cash flows from the 3100 BOEPD run rate the company reported in Q3 2023 which will run into Q2 of 2024. So, after this tax bill we will see a reduced cash balance, but it should still be around $40mm.

Altura Energy was formed by an ex-Vermillion employee who ran their French unit. He is still with Tenaz and operates the Canadian asset that he helped discover as CEO. It is a large field they discovered with estimates from 500mm-1.16bn OIIP. Tenaz has 87.5% ownership. It’s a semi-conventional reservoir which requires long fracked laterals to unlock the hydrocarbons. The wells today are 3.6km long, have an IP365 of 220 boe/d, 390m boe EUR, capex of $4.35mm, after tax IRR of 68%, and payout in 1.3 years using US $80 – WTI-WCS differential - $15. As of Q3 the field was producing 2000 BOEPD with $30 netbacks. Tenaz appear to have elected to drill 4 wells a year on the asset which will overtime get the field to 4000-5000 BOEPD before plateauing over multiple years after before then decling. They have around 40 drilling locations in the Rex formation, with another 80 potential locations in other formations (not as lucrative as the Rex), so if they elect to do only 4 wells a year, this asset has some legs on it yet and is generating its own cash for sustaining and growth capex as well as giving free cash to the parent.

In the offshore Netherlands Tenaz closed its two first acquisitions. One being from Rosewood Resources and the other from Exxon’s XTO subsidiary. These acquisitions required no money down from Tenaz with its only obligations being to assume the decommissioning liabilities as they come due. In exchange, Tenaz acquired 1100 BOEPD as per Q3 at $29 netbacks, a 21.4% interest in the NGT pipeline (yearly dividends of $5.7mm), 11.35% stake in the Eni operated CCS L10 project (potential to offset 50k BOEPD in CO2 down the line), and $46.5mm in positive working capital. The decommissioning liability as per Q3 has a present value of $56.1mm. With the E&P assets there are 2 undeveloped oil discoveries, 2 undeveloped gas discoveries, and 21 oil and gas prospects. The contingent resource has a best estimate of 4.3mm BOE, and the prospective resources have a best estimate of 19.8mm BOE. Any new discoveries will prolong infrastructure life and thereby extend the ARO, which is currently for the most part up to13 years out. A good analogue for these ARO deals is comparing it to collecting insurance premium. You get paid upfront and get to re-invest the working capital and cash flows as you see fit (preferably at high returns), and if you make a good return in the time being, with a full focus on funding the ARO when it comes due, you’ve created a lot of shareholder value in the process - leveraging at no cost to shareholders other people’s previously invested capital expenditures. Tenaz has just a working interest in the fields currently but as shareholders we’re hoping they want to become operator, so they are in control of their own destiny. The fields are currently operated by Eni who recently bought them from Neptune. The idea is that Eni could sell the fields to Tenaz whilst retaining the CCS exposure they have.

As of today, and the Q3 numbers the company has an enterprise value of $55mm CAD. Management has guided for 2024 for production of 2700-2900 BOEPD. Capex of $26-28mm which includes the Leduc-Woodbend and E&E capex for the CCS project in Netherlands. 2800 BOEPD x $35 netbacks = $35.8mm FFO. Leaving a CF/EV multiple of 1.5x. Or a 12% FCF yield ex-cash.

Tenaz announced during Q3 financials that they hedged 40% of Q1 TTF at 56 Euros. They did imply they were looking at further hedges to be put on during Q4 but will have to wait till Q4 numbers are released at the end of March to find out. The point being that the drop in TTF during Q1 2024 wouldn’t of hurt Tenaz’s cash flows to serious in the interim. And with Asian buyers coming back to buy LNG, the TTF price should see some buoyancy from here.

Qualitative Factors

Tenaz has goals of becoming a 100k BOEPD mid-sized company. Obviously, the current assets aren’t going to get them there which means they are looking to deploy their talents further into the M&A field. In interviews the CEO has said they look at deals varying from 500 BOEPD all the way to 125k BOEPD. The company has multiple full-time people working on the M&A strategy at any one time. A quick look through their employees on Linkedin will prove that. Given the teams history across multiple jurisdictions they have built up a solid database of assets and contacts and want to leverage this into making deep value acquisitions.

Tenaz has an international strategy and is looking away from North America for various reasons. One being that North American technology hasn’t found its way much across the globe yet, so as petroleum engineers the team see’s a huge chance to acquire mature producing assets and then use modern techniques to extract more juice from the fields. The second reason is that international assets sell for cheaper multiples than North American peers which gives you a cheaper entry point. The third reason is that there are less people at the bid process, which statistically means you should get a better deal if your competition is smaller in numbers. All in all, Tenaz believes looking overseas gives them a better entry pricing, and gives them further upside than what they’d get buying domestically as there is more juice to squeeze in the overseas markets giving Tenaz a better opportunity to organically grow there assets and unlock more value.

Tenaz has a primary objective to expand further in Europe, and although hasn’t said, it is assumed they will take over operatorship of their working interests from Eni, and/or acquire the NAM’s offshore small fields assets. Bloomberg reported back in September 2023 that Tenaz is preferred bidder as Shell/Exxon look to wind down there NAM JV. Checking the Netherlands government database, both asset packages each currently produce 12-14k BOEPD. Financing a deal like this should just be a factor of coming up with funds for the DNS deposit with the Netherlands government and assuming the ARO. It’s essentially just scaling up the previous deals they did with Rosewood and XTO. If they can complete one of these deals with just debt, then it will prove incredibly accretive to shareholders. Tenaz has also recently hired an exploration manager who is based in Warsaw, Poland. He just came from Naftogaz in Ukraine where he helped discover >500 BCF of gas and brought on 18k BOEPD in 2023, all during wartime! He also worked with Tony at Vermillion and ran there Eastern/Central European business, so is very familiar with the team. Maybe something will come from further east as I can’t imagine him taking the role just to be exploration manager of the non-operated interests in Netherlands. Tenaz also hired Varinia Radu as a director in the latter part of 2023. She is a lawyer and founder of Energynomics, a Romanian energy publication website. So, it’s reasonable to assume that there hirings should amount to something in the region.

Tenaz secondary regions are LatAm and MENA. In May 2022 Tenaz announced they were going to acquire SDX Energy in an all-share deal. The company had assets in Egypt and Morocco. The terms were very accretive to Tenaz shareholders, and still gave SDX holders a decent premium to what the market was giving them. In the news release Tenaz said to its shareholders the deal was 141% accretive to Tenaz on production per share, and 212% accretive on operating income per share. Tenaz holders would have held 64% of the shares with SDX shareholders the remaining 36%. Unfortunately, the deal was destroyed by an activist shareholder group who bought 25% of the company and ruined any chance of a deal as the deal needed 75% shareholder support. This is after Tenaz made an improved all cash offer to try sweeten things up. It’s also no secret numerous Latin American countries are looking for private investment to come in and boost oil production. Ecuador, Argentina, Mexico, Columbia, and Peru all have a lot of low hanging fruit and want smart teams with capital to come in and produce more barrels for them - good opportunity is abound if you go looking for it.

Tenaz is also considering additional assets in Canada but doesn’t see further Canadian assets as in keeping with their philosophy of finding deep value. But they keep the optionality open. Tony has said that the companies hurdle rate is an unlevered 25% IRR on a 2P basis. They are targeting producing assets which put cash in their pockets and can support their own sustaining and growth capex initiatives, whilst maintaining or improving the capital return to shareholders and maintaining or improving the balance sheet. As the company scales up, management has goals of returning cash to shareholders via dividend distribution.

Conclusion

Overall, we have a current asset base that is operating well and has positive cash flows and which more than supports the current valuation. Cormark Securities values the midstream asset at $40-60mm alone as per their report, + the 50mm cash and you get the market cap just like that. On top of that you get an E&P business guided to produce 2700-2900 BOEPD in 2024, a CCS project, and M&A optionality all for free. I feel based on that alone there is a delta to be had here as the valuation closes over time. But on top of that, we have the M&A optionality. Management has proven they can negotiate with the likes of Exxon Mobil and have become preferred bidder from the Shell/Exxon consortium NAM in Netherlands. I’m not sure exactly what assets Tenaz will buy, or when they will buy them. But they’re very motivated to grow Tenaz another 30x from here. It may come in one deal, or it may come in several smaller deals. Whatever it is, the team has proven they can find deep value in overseas assets like they did in Netherlands and like the deal they put together with SDX (it was so good activists came in to stop it). One thing I can guess is that as soon as bigger deals start closing, it will make the next deal easier again to close and the company will attract a new shareholder base, attain a higher multiple on its earnings, decrease its G&A per bbl, and attract better financing terms. One analogue to compare what could happen to Tenaz is against Valeura Energy, who purchased >20k BOEPD from Mubadala Energy in early 2023. The stock has been a 10x for those who held the cash shell at the 40c range till todays >$4. All it takes is that one accretive large deal, and Tenaz shareholders are off to the races.

Catalyst

M&A