Description

Amplify Energy has been written three times before and the previous write-ups and related comments give a good overview of the history of the Company and the quality of its asset base. DO EM GO’s write up in October 2020 was particularly well timed and the stock is up over 8X since that time, however the enterprise value is only 20% higher. Ray Palmer wrote it up in April of 2022 and the stock is up 12% since then but the enterprise value is 20% lower. The muted change in enterprise value has occurred as the Company has paid down over $100MM of debt while extending its reserve to production ratio. I believe the stock is cheaper and more derisked now than it has ever been (less than 1X debt/EBITDA) and on the cusp of major catalysts over the next 3-6 months that will uncover the tremendous value of Amplify’s assets. This write-up will focus specifically on two items which we believe haven’t been fully flushed out and create a path to significant cash flow inflection and share price gains which I expect to be above and beyond what has been discussed so far:  1) clarity on the enormous value of Beta and 2) specific actions planned by management to realize the massive undervaluation of its asset base.

COMPANY OVERVIEW

Amplify’s assets are mature properties that are generally past the higher decline stages typically characterized by newer production. Its production decline rate is only ~6% per year for the next decade, translating to a less capital-intensive business relative to most E&P companies, especially those in the unconventional/shale business that can have corporate decline rates of 25%-35%+. Amplify is more resilient against commodity price volatility and provides for higher FCF.  This FCF is highly predictable with 85%-90% hedged for natural gas until year end 2025 and 45%-50% in 2026. The oil hedge position in 70-75% for 2024, 45%-50% in 2025 and 10-15% in 2026.

As the slide below shows, the Company is quite cheap based on its current proved, producing assets even with fairly draconian long term commodity price assumptions. The PV 10 analysis is very sensitive to long term strip prices, which for oil prices is currently in the mid $60s, however, I am of the opinion that long term prices will trend higher not lower in the long term. This undervaluation, however, is even more severe when one considers that the Beta PV10 is dinged for decommissioning liabilities that may be delayed by decades as discussed later. Based on a FCF valuation, the Company has guided to $20-$40 million of FCF in 2024 after $33-$40 million of growth expenditures. FCF yield to equity at midpoint is 12% with fully loaded capex and 27%, excluding Beta related growth capex.  Amplify is one of the longest reserve lives and highest free cash flow yielding energy Company in my universe based on the just the existing asset base.

THE BETA OPPORTUNITY

The following slide gives an overview of the Beta asset:

Beta is a world-class oilfield initially discovered and developed by Shell in the 1980’s drilling low angle wells through the massive, highly permeable, stacked sandstones. The last significant drilling program in the asset consisted of 7 wells drilled by Amplify’s predecessor company. Three of these wells were drilled horizontally targeting the D-Sand and delivered 1st year average production of approximately 350 gross Bopd per well. The current development plan is designed to sidetrack out of existing, shut-in wells and horizontally target the D-Sand, utilizing the latest in rotary steerable and mapping well drilling technology to optimally place wells in areas with the highest remaining oil saturation. The Beta field has the potential to be a large growth asset for decades as there are still significant resources remaining to be recovered. The original oil in place estimates of the field range from 600 million to 1 billion barrels of oil and, with only approximately 100 million barrels recovered to date, the implied recovery factor is only between 11 to 16%. There are many analogue fields in the southern California basin with very similar reservoir properties that have recovered between 30 to 40% of the original oil in place. Implication being that there is 70 million to 260 million barrels of recoverable oil in place with the midpoint of estimates being 165 million barrels. These analogous fields generally have much tighter well spacing compared to the Beta field, which presents the opportunity for significant infill drilling.

BETA ECONOMICS AND VALUE

The Company plans to increase production from Beta starting this year and 66% of its $50-$60 million 2024 capex budget is allocated to the Beta development and one time Beta facility upgrade. The remainder of the budget, which I consider maintenance capex aimed at keeping reserves to production life flat is directed towards its remaining assets. In the first quarter of 2024, Amplify initiated a four-well development program at Beta for a total capital investment budget of $20 million to $24 million or $5-$6 million per well. At an assumed 350 Bopd per well and a 75% revenue allocation post royalties, $75/bbl assumed oil price, each well generates $7.2 million of revenue for Amplify. Most importantly, there are minimal incremental costs associated with this revenue and virtually all incremental revenue translates into free cash flow. The payback is less than one year as a result. In the second year, production is assumed to decline to 205 Bopd and the decline rate flattens to approximately 4% per year, longer term. The IRR on each well is approximately 100% with these assumptions. The PV10 of these cash flows is approximately $1 billion, assuming a steady rate of 4 wells drilled per year, every year for the next 30 years and production lasts for over 30 years. However, I fully expect that the Company would accelerate the number of wells drilled per year starting 2025, if the 2024 drilling program performs as expected. Amplify’s current infrastructure can accommodate drilling 12 wells per year. At that pace, the PV10 of the cash flows doubles to approximately $2 billion. Also, the abandonment costs get pushed beyond the investment horizon. The Company maintains surety bonds towards its decommissioning liability for Beta. These providers currently require Amplify to set aside cash into a sinking fund. Amplify’s annual sinking fund obligation is ~$16 million for 2024 through 2033. This sinking fund was not in place immediately before the pipeline spill in October 2021. I expect that as the new Beta wells are drilled, further pushing the decommissioning dates by decades, the Company will be able to modify or remove this obligation and free up capital to return to shareholders. Currently this sinking fund is held as “Restricted investments” on its balance sheet with a balance of $19.9 million at year end 2023.

Initial production results for the first two wells are expected in the second quarter of 2024, with the final two wells coming online in the fourth quarter. The Company has also budgeted approximately $25 million for electrification and one time upgrade of the facilities at Beta aimed at reducing costs and emissions. Approximately $10 million of this was invested in 2023 and the remaining $15 million invested in 2024 will complete the facilities project in the 2nd half of 2024. This project involved the upgrade of electrical facilities, the replacement of diesel driven injection pumps with electric pumps, and the installation of selective catalytic reducers on all natural gas and diesel driven engines, which will almost completely eliminate the NOx emissions at Beta and the expense of purchasing NOx emission credits. Upon completion, there will be a further reduction in power costs by eliminating almost all diesel usage for production operations, which will be substituted with Amplify’s produced natural gas and additional electricity purchased from the local utility onshore. In total approximately $6-$8 million in cost savings are expected from this project, most of which are expected to be realized in 2024. After completing these projects, there will be no need for additional, material facility investments at Beta in the near future, which will increase the free cash flow from Beta going forward.

VALUATION

Amplify’s existing assets in my opinion are worth at least $10 per share, a 60% upside from here and in line with what has been generally the consensus in previous write-ups. The Beta development adds approximately $1-$2 billion of PV10 or $25-$50 per share. My understanding is that the risk in Beta development is not geologic but technical. The oil is in place, it may cost more than $5-$6mm to drill a well but with 100% IRR and minimal cost of incremental production, there is a lot of room for error. One can hair cut the above projections by a material amount and the upside is still multiples of the current stock price. For example, NPV20 is approximately $300 million to $650 million for the 4 well per year and the 12 well per year scenario, respectively or $7 to $16 per share, incremental value.

PATH TO VALUE REALIZATION

 Management is quite aware of the undervaluation of the Company and the exciting prospects of Beta. The overarching path to realizing this value is to monetize all of the Company’s assets through a combination of asset sales and merger.

The process has started with the Company putting the Bairoil asset on the market this year. In the last earnings call, the Company said:

“Bairoil is a very technical asset and so what we have started by doing is obviously reaching out to the most interested buyers, which is a pretty long list, and really working with them on the technical aspects of this deal. Keep in mind, we are running this as a parallel process between both an asset, outright asset sale and a monetization through a different kind of securitization or other structure. So that is going to take a little bit longer than your traditional divestiture timing. We anticipate this will lead to some kind of result or decision somewhere between kind of the first quarter and second quarter earnings calls. So probably sometime in that kind of midsummer timeframe, June, July, somewhere in there.”

Amplify’s non operated Eagle Ford assets are unofficially for sale as well. My guess is Oklahoma gets monetized after that. Beta is then sold after its potential is proven to an offshore operator who can assign an appropriate value to the asset. The Texas and North Louisiana assets can be an excellent fit for a private company operating in that area looking to come public via a reverse merger. The Company will utilize the proceeds from any asset sales to reduce a bit of debt, although they are already in a very comfortable position there and the remainder would be returned to shareholders via buybacks and dividends. I expect them to be very aggressive with buybacks over a special dividend, if the stock price remains in the single digits.

Catalyst

Over the next 3 to 6 months we will have two major catalysts, the results of Beta wells and the conclusion of the Bairoil sale that should frive rerating. Looking to 2025, cash flows should increase significantly. There will be approximately $38 to $44 million of incremental cash flow over 2024 in 2025 from (i) $25-$28 million of cash flow from the Beta drilling in 2024 and (ii) $13-$16 million of less capex from the completion of the Beta facilities related capex. Finally, we should have more asset sales and aggressive buybacks, culminating in a reverse merger to catalyze the value of its assets and create a larger, more liquid enterprise.