Ithaca Energy (TSE:IAE)

Ithaca Energy is a stock I looked at quite a while ago. I wrote the following article and was about to buy shares, but in an extreme case of bad luck, just before I could act, the shares rallied 30%. I haven’t since initiated a position but think the shares are still compelling so thought I would post the write up. They have just reported Q3 2013 results which showed record cash flow, putting them at a EV / Annualised Cash flow multiple of just 3.5.

Investment Thesis

Ithaca Energy (TSE:IAE, AIM:IAE) is a North Sea oil producer with quite a short history, but a profitable base of 11 wells that have been coming on stream in the last few years. In 2013 it completed an acquisition of Valiant which has substantially increased its operating cash flows and reserves. The market for oil producers in general is very depressed, but Ithaca is selling at a very low price and could be a potential takeover target for one of the bigger oil companies.

I explained all about oil companies in my series How to value an oil company, so lets dive straight into the figures.

Market Cap: US$723m
Net debt: $357m
Enterprise Value(EV) / 2P: $15.69 per boe
EV / PV10: 1.45*

*Due to the acquisition in 2013 I have to guesstimate the PV10 figure. It was $558m in 2012 prior to the acquisition and based on the fact that Valiant increased reserves by 35% I applied the same increase to PV10. In reality it’s likely higher as Valiant’s reserves are already flowing.

The first thing that struck me about Ithaca is its price to cash flow. The Q3 2013 annualised operating cash flow is $310m. That means it trades on an EV/Cash flow multiple of just 3.5. But that’s not the end of the story. It is still increasing production and plans to have operating cash flow of $730m by 2015, which would put it on a forward EV/cash flow of just 1.3. Its latest investor presentation on page 5 forecasts that free cash flow will be as follows (NB I have added in figures for 2016 onwards myself – based on aggressive production drop offs on new wells)

IAE FCF(click to enlarge)

 As you can see from 2014 onwards it is generating substantial cash flows and I have assumed that production will quickly fall away after 2015 as that is usual for oil wells after the first couple of years. Summing those discounted cash flows gives me a value of $1.1bn compared to its current EV of $1,080m.

I feel I have been very conservative however, as its EV/PV10 is very low by industry standards. EV/2P however is quite average, a lot of North Sea reserves have been bought around the $14 mark in the last few years.

Given its cash generation I think Ithaca is too cheap, but it’s a volatile stock and just a few months ago it was down at $1.60 per share compared to today’s $2.41. Maybe the opportunity has already been missed, but compared to the rest of the market this is definitely still an attractive investment at these levels.

Disclosure: IAE – no position

Founder of Investing Sidekick. Works as a research analyst and is an avid value investor, always searching for undervalued shares.

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