[Eye Candy]: What’s next for GSS Energy?

In the recent announcement by GSS, it have announced the long waited results of their oil and gas venture. I mentioned in my previous post on GSS that this catalyst is the most important for GSS in 2017 as it determines whether a not their O&G business arm will be successful. I also previously shared on IN that the most uncertain part of any O&G business is the exploration phase as a company can spend millions on setting up the place for drilling but if they can’t find substantial oil in the area, its a failed effort.

GSS logoAnd yes! They did it. The management’s postulation on the Trembul area seems to be right.

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In this post, I shall made a new set of possible postulations of what might happen from now on for GSS after reading the various articles and reports about GSS after they have found oil.

Summary of Announcement

According to the announcement released, there are 8 columns of hydrocarbon found under SGT-01, the well that they drilled. The first 2 being gas and the next 6 is oil.

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And according to in-house estimates, the 1P (proven) recoverable resources in SGT-01 is 2.83 million barrels of oil from the 6 oil zones and 8.49 BCF (billion cubic feet) of sweet gas (equivalent to 1.5 million standard cubic feet per day (MMSCFD) of sweet gas for the period of 14 years).

I believe that the management was very wise in choosing that location to conduct SGT-01 well exploration as it is near several other old abandoned wells which allow them to also be able to deduce the oil profile of those older wells. Because of this discovery, they were able to estimate more accurately, the oil profile in well P1 that was drilled by Pertamina back in 2005. (Well P1 have more than 3 potential oil pay zones).

Also, GSS have shelved asides plan to drill SGT-02 which was supposed to be done after SGT-01 to drill the surrounding wells near SGT-01 so that revenue can be recognised from this discovery. Another wise move.

GSS will look to monetise the sweet gas zones in SGT-01, start oil production for well P1, TRB03 and TRB06. (I am assuming right here that all these wells are chosen because they are of close proximity to SGT-01 which allow them to have a better understanding of the oil profile in those wells). All these works aim to yield 200 barrels of oil per day by 3Q18 and monetise the sweet gas in SGT-01 before the year ends.

What does all these mean?

All these will mean that GSS will finally recognise their maiden revenue from their oil and gas venture. I shall attempt to do a brief calculation of how big this is for GSS.

For SGT-01,

 

8.49 BCF of gas is equivalent to 8617350 MMBTU of gas. As of current natural gas price, 1MMBTU cost USD$2.65 (but let’s discount it to USD$2.50)

Total gas revenue = USD$21,543,375 = SGD$ 28,006,387.50

Share of revenue for GSS = 31.4% of total gas revenue then 89% of PT SGT = SGD$7,826,664.45

Can’t assume the net profit as we are unsure of the cost required to produce the natural gas. But one noteworthy fact is that the gas found is sweet which is of high quality and can be sold for a higher price.

For oil,

Total oil revenue = 2.83 million barrels of oil x USD$50 per barrel = USD$141.5 million = SGD$183.95 million

Share of revenue for GSS = 23.5% of oil revenue and then 89% of PT SGT = SGD$ 38.5 million.

Net profit for oil (assuming cost of production per barrel is USD$15) = $SGD 26.9 million

For SGT-01 alone, total revenue (oil and natural gas) they can get out of this = SGD$46.3 million

For Well P1,

There are more than 3 potential pay zones according to their announcement.

Screen Shot 2017-12-28 at 11.43.32 AM.png For simplicity sake, let’s just assume that in Well P1 there is only 3 oil pay zone, and that the oil profile is similar to SGT-01. Meaning for that 3 pay zones, it yields 1.41 million barrels of oil (2.83 barrels divided by 2).

Total oil revenue from P1 (assuming USD$ 50 per barrel) = USD$70.5 million = SGD$91.65 million

Share of revenue for GSS = 23.5% of total oil revenue and then 89% of PT SGT = SGD$18.76 million.

Net profit for GSS (assuming USD$15 per barrel COP) = SGD$13.41 million

For well TRB 03 and TRB 06,

Firstly we have to assume that TRB03 and TRB 06 are of close proximity to SGT-01 and they share rather similar oil profile. Because out of all the 24 abandoned oil wells that GSS could pick to work on, they have chosen these two, which I believe is after due consideration.

As we do not have much information on TRB03 and TRB06, we shall assume that both only had 2 oil pay zones. Total oil resources = 1.88 million barrels of oil

Total oil revenue from these 2 wells (assuming USD$50 per barrel) =  USD$94 million = SGD$ 122 million

Share of oil revenue for GSS = 23.5% of total oil revenue and then 89% of PT SGT = SGD$25.5 million

Net profit for GSS (assuming USD$15 COP) = SGD$13.7 million

 

TOTAL GSS REVENUE FROM ALL THESE 4 WELLS = SGD$ 90.56 million 

 

Assumptions Made,

  1. All wells have similar oil profiles as SGT-01, but to be conservative, I have assumed P1 only had 3 oil zones when there are more and also only assigning 2 oil zones each for TRB03 and TRB06 which should be much lesser than it could possibly be.
  2. I also assumed a lower oil price of USD$50 per barrel
  3. Cost of production is said to be USD$10 – $15 per barrel but I took the high end to calculate for all.
  4. Exchange rate used is USD/SGD = 1.3

 

What could go wrong?

Despite all the rosy picture about them striking oil, I would also like to analyse what can possibly go wrong. They may meet with some execution problem, where they are unable to successfully withdraw the oil or the gas.

SGT-01 is the very first exploration well that they drill. Supposedly, SGT-02 will be the next exploratory well and when they go there, the risk of not finding substantial amount of oil to commercialise will remain. The risk remains that when they drill in other areas of the Trembul operation area they might not find enough oil to commercialise it. So you can think of SGT-01 as the first battle won out of the many other battles that have yet to be fought.

Potential Catalysts

Their PE business have been doing rather well. The CEO have been talking about seeking to unlock value in the PE side of the business for sometime now. That could come in the form of a strategic divestment of partial ownership of the business or seeking a spin off of the PE side.

After all, the name GSS Energy is a clear indication that CEO Sydney wants to grow the oil business into a full fledge business to stand on its own. So I am looking forward to the oil business gaining some stability before CEO spins off the PE side of the business in 1-2 years time.

Of course, a clear catalyst for the oil business would be the discovery of more oil reserves in the area, which I think is very possible. If they continue with the strategy of digging exploratory wells near old abandoned wells, its very likely that oil can be found there.

In conclusion,

the total value of the 4 wells they are working on is worth SGD$90.56 million. At the price of $0.175 which is the price the CEO last bought from the open market, the market capitalisation is only SGD$ 86.8 million. Which is undervalued as they still have a functioning PE business delivering about SGD$75.61 million in revenue for FY 2016. Furthermore, this is only phase 1 of the oil business for GSS, they can still strike oil in other areas of Trembul with the 22 untapped abandoned old wells.

I would say that GSS is a long term play as the initial period of oil production is usually the hardest. Holding it for 2-3 years should see the real value being uncovered should everything goes according to plan.

PS I am vested.

Links where I took my information from:

http://infopub.sgx.com/FileOpen/SGX-GSSEL_20171213-Completion_of_well_SGT-01.ashx?App=Announcement&FileID=481906

https://www.nextinsight.net/story-archive-mainmenu-60/939-2017/11930-gss-energy-first-oil-discovery-with-sweet-gas-surprise

 

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[Eye Candy]: An in depth look into GSS Energy

Hello all! Today I will be doing a deeper analysis of GSS Energy. I am personally vested in this company hence, I would advise readers to exercise their own discretion when reading this post. Recently, GSS’s stock price have been going on a rollercoaster ride and many people including myself were thinking of cutting loss. But I held on because the prospects of the company are bright and the business fundamentals are sound. In the coming paragraphs I will bring you through GSS’s business and the outlook.

GSS logo

GSS Energy mainly operates in two business segments. 1) The precision engineering business and 2) the Oil and Gas segment. To let you understand a fuller picture I did a timeline of GSS transformation from 2013.

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GSS timeline 2.png

If you realised I never really talked about their PE business in the timeline above because during the period of 2013 to 2017, GSS took a huge plunge by venturing into the O&G sector which caused the main bulk of the movement in share prices. But since you got a fuller picture of what happened within this critical time span for the company, I will now analyse the respective business segments and their prospects.

1) Precision Engineering

GSS’s core business has always been precision engineering. In fact, they were a pure play PE firm before the new management decided to bring them into the O&G sector. Many people don’t realise that GSS Energy have a functional and profitable PE business. Come on the company’s name itself is misleading enough haha! So let’s take a look at how the PE business have done so far since 2014.

PE business.png

Both revenue and gross profit have been growing. That’s a good sign. Also, in 2017 they are shifting to a larger facility in China which will allow them to accept larger and more sophisticated orders as they capitalise on the chance to improve the new facility.

And for 1Q 2017, their PE business continued to grow at about 28% Q over Q.

1Q2017

That is kinda impressive. With so many competitors in the PE industry, it is sometimes hard to grow one’s business. However GSS PE business have been able to consistently grow their PE’s business revenue and gross profit for the past 3 years. This shows that the management are able to position the company’s services such that it attracts larger sales order from existing customers or obtain new customers to the company and at the same time reduce cost of production.

The thriving semiconductor industry in 2017 have become a favourable tailwind to GSS’s PE business. With a strong record of building up the PE business, and demand for electronics set to grow this year, this could be a record year for the PE business for GSS. In fact, the CEO have also considered plans to further grow the PE business through strategic acquisitions or collaboration, spinning off the PE business have also been considered by the CEO. That shows the confidence he have in the PE business.

2) Oil and Gas exploration

I think this is the main segment that is important to many investors. Since this business is new to GSS and there have been a case of their failure in this new business segment. The CEO’s concept in the O&G is not ordinary. He wants to ensure that there are certainty of oil in the ground and that it must be low cost so that they will not be badly affected by changing oil prices.

CEO Sydney’s way to achieve those objectives was to acquire old abandoned wells in Indonesia and drill them. The rationale for that is simple. Back in the old days, the colonialists have created many oil wells for their own needs. But in WW2, the colonialists destroy these oil wells so that the Japanese could not get access to these resources. So by acquiring these old oil wells, the cost of production of drilling for oil in that area becomes low. (About US $12 per barrel estimated)

Of course, not every old oil well contains oil reserves. Extensive studies have been done by GSS before committing to any sites. The current one that they are working on the Trembul Operation Area is in the same basin as the one Exxon Mobil use to draw oil, so certainty of obtaining oil seems to be quite high. And if the Trembul Operation is a success, the CEO have in mind to expand around the area in order to grow their O&G business to be a full fledge player in the industry.

Also, the type of agreement that GSS signed with PT Pertamina, Indonesia national oil company is different from the one they signed in the 2014 debacle. For this arrangement, money earned in the sale of oil is first used to pay off the cost of production of the oil before profit sharing is done. And since, the oil is bought by the government there are some forms of certainty in the buyer.

Risks

Yup the risks of not obtaining oil, execution risk and low oil prices are definitely there. But in my opinion, these scheme of arrangement with Pertamina puts GSS in a better position to reap profits from the venture. Unless oil price falls below US$20 per barrel which is rather unlikely, this remains profitable for GSS. Also, as a show of confidence, CEO have been buying shares in Jan 2017.

 3) Fundamentals

Balance sheet

GSS balance sheet looks fine. I am more concern about debt since O&G companies around the world have been going bust because of debt issues.

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Debt free company! And the group have a rather strong cash reserves of about $11 million.

Cash Flow

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Cash flow is improving. Free cash flow have been rising ever since 2014. That is definitely a good sign. Haha credits to Investingnote for doing the calculations! 🙂

Insider ownership

The CEO holds 17.99% stake in the company and a non-independent, non-executive director Glenn Fung holds a 13.44% stake in the company.

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That’s a combine 31.43% stake in the company from 2 members of the board in GSS. The management definitely have their interests aligned with the shareholders. Furthermore, the CEO have been buying up shares in 2017 as well.

4) Outlook

I feel GSS have more legs to run. Backed by a profitable PE business and with the oil business coming online in 2017, this could be a good year to watch for GSS. I think some of us are concern because FY 2016’s results are backed mainly by a once off income gain by the government.

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If you realise without the once off income, they would only have about $3 million in profit for FY 2016. That translate to about PE 28x at current price. To see if the current price is considered undervalued after factoring some future catalysts, I shall try to do a conservative estimation based off some assumptions.

  1. No growth in PE business
  2. Company manage to retrieve oil from the ground
  3. Price of oil remains in USD$40 to USD$50 per barrel

Assuming there is no growth in the PE business, we are looking at a revenue of $70 million and an EPS of SGD 0.6 cents.

Now according to a QPR by GSS, there is said to be 24 million stock tank barrel of oil reserves in the Trembul area up to 800m deep. GSS subsidiary PT SGT a 49:51 JV is entitled to about 23% of the oil reserves there. So GSS is entitled to 49% of the 23% of total oil there are.

gss QPR trembul.png

GSS’s contract with Pertamina is for 15 years, that would entitle GSS to have

49% of the 23% of 24 million barrel of oil = 2.70 million barrel of oil and after 3 years GSS’s stake will increase to 89% of the 23%.

Assuming a more conservative figure — GSS are entitled to only 2.16 million barrel of oil

So 1 year = 144 000 barrels of oil

Assuming GSS cost price per barrel is USD $20 (actual estimated is USD $12) and price of oil ranges from USD$40-50 (Let’s take USD $40 to calculate)

Net profit for GSS oil business per year (first 3 years) = USD 2.88 million = SGD 3.75 million (USD/SGD of 1.3) = EPS of SGD 0.755 cents

Total EPS when O&G comes online = 0.755 + 0.6 = 1.355 cents

Which translate to a PE ratio of 13 at share price of $0.175 (the price which CEO last bought his shares from the open market). Also note that my calculation is only valid for the first 3 years as after that GSS’s stake will increase to 89% as per the agreement signed.


If we were to consider oil profits from the 3rd year onwards**:

89% of 23% of oil reserves = 4.97 million barrels a year (from 3rd year onwards)

To be conservative let’s take around 4.5 million barrels.

Net profit for GSS’s oil business per year (from 3rd year onwards) = USD $90 million = SGD 117 million (USD/SGD =1.3x) = EPS of  SGD 23.5 cents

Still assuming no growth in PE business from 3rd year onwards, total EPS = 23.5 + 0.6 = 24.1 cents.

Which translate to a PE of 0.7 at price of $0.175.

This is could be why CEO’s Sydney emphasize that GSS is undervalued.

The above is taking into consideration that there is no growth in the PE business and that oil prices ranges from USD$40 to USD$50 per barrel.

**However, its good to note that my type of calculating is not the most accurate as company will not be able to drill the exact amount every year. Hence, I hope my calculation help to shed light on how lucrative the potential of the oil business can be to GSS which is why in my opinion, many investors are waiting to see if the oil business will become successful.

 In conclusion,

one should monitor FY2017 closely to see the rate of change of pure earnings Q over Q. Supported by positive tailwinds from the semiconductor boom and with oil prices stabilising out, it is definitely a growth company at an inflection point. FY 2017 result may not be higher than FY2016 but one should always look at the real growth rate of earnings to determine if there is growth potential in the company. With that, I shall end my analysis, rmb to DYODD!