Vaalco Energy-TransGlobe Merger: Diversification At A Price (EGY) (TGA)

1 – Introduction

On July 14, 2022, VAALCO Energy (NYSE:EGY) and TransGlobe Energy Corporation (TGA) announced they had agreed to merge in an all-stock strategic business combination transaction valued at $307 million.

Under the terms of the Arrangement Agreement, VAALCO will acquire each TransGlobe share for 0.6727 of a VAALCO share of common stock, which represents a 24.9 percent premium per TransGlobe common share based on the companies’ respective 30-day volume weighted average share prices as of market close on July 13, 2022. The Transaction will result in VAALCO stockholders owning approximately 54.5 percent and TransGlobe shareholders owning approximately 45.5 percent of the Combined Company.

A look at the two companies and their attributed portion of the Newco, we can say that they have been evaluated as quasi-equivalent with only a tiny premium for EGY.

Also, if we glance at the stock performance, we can see that both companies have done fantastic on a one-year basis and, despite some recent retracement, are still up significantly. TGA is up 83%, while EGY is up 73% after falling hard after the merger was announced.

2 – The combined company’s assets (Newco)

In the recent merger presentation, Newco lists four different assets:

1. Offshore Gabon (WI 58.8%): Etame Marin Permit, with 17.0 MMBBL (“NRI”) in mineral proven and probable 2P. 2022 Production estimated is 9.75 K Bopd (mid-point).
2. Onshore Egypt (WI 100%): The Eastern Desert and South Ghazalat with 17.4 MMBBL (“NRI”) in mineral proven and probable 2P. 2022 Production estimated is 6.9 K Bopd.
3. Offshore Equatorial Guinea (WI 45.9%) (Project phase): Proceeding to a field development plan after completing the feasibility study of Venus.
4. Onshore Canada (WI 94.5%): Harmattan with 16.9 MMBOE (“NRI”) in mineral proven and probable 2P. 2022 Production estimated is 2.4 K Boepd (67.4% liquids).

3 – VAALCO Energy and TransGlobe – Quarterly Balance Sheet History – The Raw numbers

VAALCO Energy	1Q21	2Q21	3Q21	4Q21	1Q22	TransGlobe	1Q21	2Q21	3Q21	4Q21	1Q22
Total Revenues and others in $ Million	45.65	53.14	63.95	65.20	77.60	Total Revenues and others in $ Million	18.05	50.63	57.87	177.41	52.95
Net Income in $ Million	9.87	5.88	31.72	34.36	12.16	Net Income in $ Million	-11.02	7.72	37.08	6.56	48.81
EBITDA $ Million	18.59	25.08	27.32	30.05	45.17	EBITDA $ Million	-1.08	20.62	50.00	19.69	64.79
EPS diluted in $/share	0.17	0.10	0.53	0.58	0.21	EPS diluted in $/share	-0.15	0.11	0.51	0.09	0.66
Cash from Operation activities in $ Million	1.74	11.42	33.56	3.40	−0.76	Cash from Operations activities in $ Million	-3.94	23.83	27.03	-1.96	-23.78
CapEx in $ Million	19.06	7.75	4.16	8.10	23.15	CapEx in $ Million	2.89	3.57	11.58	8.68	8.66
Free Cash Flow in $ Million	−17.3	3.67	29.40	−4.70	−23.91	Free Cash Flow in $ Million	-6.83	20.26	15.45	-10.64	-32.44
Total Cash $ Million	19.25	22.88	52.84	48.68	18.94	Total Cash $ Million	28.67	43.64	53.95	37.93	37.25
Total LT Debt / Op. Lease liability in $ Million	0.00	0.00	0.00	0.00	0.00	Total LT Debt / Op. Lease liability in $ Million	21.70	16.95	6.88	3.04	3.14
Shares outstanding (diluted) in Million	58.46	58.57	58.92	59.06	59.18	Shares outstanding (diluted) in Million	72.89	72.92	72.98	73.78	74.32
Oil Production	1Q21	2Q21	3Q21	4Q21	1Q22	Oil Production	1Q21	2Q21	3Q21	4Q21	1Q22
Oil Production in Bopd average	5,180	8,018	7,694	7,554	8,051	Oil Production in Boepd average	12,221	13,077	13,342	12,763	12,446
Oil price realized $/ Bo	61.31	69.61	73.02	77.31	109.65	Oil price realized $/ Boe	48.47	56.48	60.85	67.03	75.70

Source: SEC filing EGY/TGA

4 – A few comments from the table above – plus and minus.

1. VAALCO Energy production is oil, whereas TransGlobe is a combination of oil and natural gas. As you can see above, EGY realized a price of $109.65 per barrel of oil in 1Q22 against $75.70 per Boe for TGA. Hence, revenues are much higher for EGY than for TGA. This trend will increase for EGY with a higher production volume in the next few years.

2. Production at the Etame Marin is expected to increase significantly, and costs are about to go down with the new FPSO contract later this year. Furthermore, EGY could build a desulfuration station and increase oil production significantly or at least by about 2,000-2,500 Bopd.

3. EGY has more mineral reserves and better potential to increase it quickly without a huge CapEx. The Equatorial Guinea prospect is not considered a valuable asset in the deal. No mineral resources are indicated.

4. The debt issue is moot. EGY has no long-term debt, and TGA has only $3.14 million.

5. One crucial advantage painfully lacking in VAALCO Energy is that this merger provides diversification, which has been the main issue for VAALCO for many years, with only one producing asset in Gabon, West Africa. The combined company solves the assets concentration risk and diversifies the business model, including offshore and onshore expertise, but I wonder at what price?

Thus, it is difficult to see why VAALCO Energy owned less than 60% of the merger company? I think it was one of the reasons why EGY sold off when the news was announced. The stock price may drop even further if oil prices continue to decrease (Check my Technical analysis below).

Finally, in terms of synergies, I see only a minimal effect going forward due to the assets’ location and the company’s expertise. EGY is an offshore E&P producer, whereas TGA specializes in onshore assets.

Regarding stock appreciation, I believe EGY shareholders did not get a fair deal and should have claimed a more significant part of the Newco or combined company.

5 – Merger Timetable

The merger will be completed before 4Q22 based on the deal indicated.

6 – Technical Analysis And Commentary

Note: The chart has been adjusted for dividends.

The channel formation can be of two types: bullish and bearish. Generally, a descending channel is a bearish trend reversal chart pattern. When the movement is downward, which is the case here, it is considered bearish. EGY forms a descending channel pattern with resistance at $8.20 and support at $5.20.

The short-term trading strategy is to trade LIFO about 55%-65% of your position. I have increased the short-term part because of the increasing volatility attached to the oil sector and the nature of the pattern.

I suggest selling at above $8 and waiting for a retracement below $5.20. In this case, I recommend starting to sell 25% at mid-support/resistance or around $7, which is the 50MA.

However, EGY could break down if oil prices lose momentum, which is a real possibility after the recent CPI numbers. EGY’s lower support is estimated at $4.25.

Watch oil prices like a hawk.

Note: The LIFO method is prohibited under International Financial Reporting Standards (IFRS), though it is permitted in the United States to Generally Accepted Accounting Principles (GAAP). Therefore, only US traders can apply this method. Those who cannot trade LIFO can use an alternative by setting two different accounts for the same stocks, one for the long term and one for short-term trading.

Warning: The TA chart must be updated frequently to be relevant. It is what I am doing in my stock tracker. The chart above has a possible validity of about a week. Remember, the TA chart is a tool only to help you adopt the right strategy. It is not a way to foresee the future. No one and nothing can.

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