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Since I started publishing articles, including the last one, about Frontera Energy (OTCPK:FECCF), I have emphasized the importance of patience and a consistently applied business strategy. This administration seems to have neither Not good for shareholders. And now the administration has announced Initiative to capture value For some Colombian infrastructure because they believe it is undervalued. But later in the first quarter report, management noted that some protests led to production outages and caused overall production to decline. As a result of all this, there are other companies I follow that handle this type of situation better and create greater shareholder value. To me, this remains a sell (or even a strong sell) since there are better options out there.
Bond prices
One general axiom is that stock prices move Nowhere if bond prices are weak. This is what prompted the first question during Conference call.
“The first thing is, I think, about the strategy towards your bonds. It’s one of the cheapest bonds among independents in Latin America and Colombia, which kind of confuses me because you have a good, diversified asset base. And you have good cash flow and relatively low leverage at some point, do you Thinking about doing more buybacks or exchanging for something maybe more amortized or something like that?
This question comes from Bank of America’s Annie Milne during their Q1 2024 conference call.
It explains some of the challenges facing the company in both the debt market and the well-known challenges in the stock market. Later, management was talking about separating (possibly) some assets to realize value.
But at the same time, the management stated that if these assets are sold or separated, there is no requirement to repay any debt. This goes a long way to explaining the debt prices that raised this question in the first place.
The idea that shareholders could benefit at the expense of bondholders is a scary thought for the bond market. But it also signals to shareholders a certain management mindset that could pose a risk to shareholders in the future as well.
Colombia is known for having lower ratings compared to other places, such as the United States or Canada. But if management’s strategy contributes a certain amount of uncertainty, stock prices are likely to reflect a larger discount than expected. This is especially true if bond prices are perceived to be lower than those of other similar companies that hold bonds.
Strategic decision
Most importantly, the strategy seems to be “Get value now, no matter what it takes.” Previous articles have mentioned advertising about getting value for business in Guyana. This is obviously still ongoing, and will likely take longer than management originally anticipated.
Moreover, whenever management is questioned about a backup plan, the answer is at best ambiguous (as was the case here with bond prices) and at worst can be interpreted as no plan.
There are now two main parts of the company “on the table” to capture value. The most recent was Colombian infrastructure. But this is one of the parts of the company that generates money that can be used to get value for Guyanese property.
A sale or spin-off of an asset like this, with no plans in place to realize value for the Guyana project (which could eat up a lot of money if not sold) other than an ongoing marketing campaign, will cause major panic in the bond market. This will also put any advances in stock prices on hold.
The market already has doubts about the drive to get value for business in Guyana. What is happening now is likely to reinforce these doubts.
Africa oil
Compare what’s happening here to what’s happening with Africa Oil (OTCPK:AOIFF). Africa Oil has just made two plantation landings with major partner TotalEnergies (TTE) in a “business as usual” manner that has eliminated a lot of cash risk while allowing for some upside potential when cash flows. It should be noted that the cash will not be in circulation for several years. But unlike Frontera Energy’s management, this one is willing to wait for that money.
One of the problems with realizing value now is that any buyer is unsure of the value. Leases can have a significant value, or exploration wells may start drying up or disappointing “tomorrow.” This makes the transfer agreement with Total very important because if Total decides to abandon it in the unlikely event of disappointing future results, Total can do so. There is no future cash obligation in such a case.
Here, Frontera management wants the money now and claims two wells indicate value. So far, it seems that anyone who has seen the project disagrees with this view. Actions or non-actions speak louder than words.
The key here is that any cash Africa Oil expects to make is dependent on commodity prices years from now, and a lot depends on success between now and then. While the two partners agree that so far, the two farms appear to be commercial. There are no guarantees between what is promising now and what is productive then and in the future. This hinders the money supply as few other things do.
the job
The actual business of producing the money and profits generated by the infrastructure is actually going well. But all the attention is directed toward “value creation” measures that may not get anywhere quickly.
Management has some decent businesses, a more than good debt ratio, and a lot of things going for Colombia and Ecuador. All management has to do is run this business the same way all other companies run their business.
There are ways to “exit” value but this strategy requires a lot of patience and time because the market for companies doing business in Colombia and Ecuador (or for that matter, all of South America) is challenging.
So door sales and exits only happen periodically. In simple terms, liquidity is an issue and buyers rule the market. This management has a fair amount of familiarity with such a market, as it is very accustomed to controlling the selling process. There will likely be some financial bumps and bruises along the way as a result.
summary
Management now has two pieces of work to “create value” through “strategic alternatives”. This rarely works for companies where liquidity for such transactions is an issue. The odds are against success and management learns how the process should work (hopefully before it loses too much value).
For this reason, the stock is sold. I will not argue against aggressive selling because I do not believe in management’s ability to successfully implement the current strategy. For me, that’s “run the other way and never look back.” I won’t touch the stocks.
I’m very interested in departments that know what to do in a situation like this. One such company is Africa Oil, which recently made two agricultural operations while retaining a keen interest in future upside potential.
The key is that the remaining interest is likely to be worth little right now, for the same reason it’s difficult to sell a home under construction (as opposed to a finished product). In Guyana, it is clear that management does not have a finished product. Instead, he has a house under construction.
What Africa Oil did was eliminate future financial risk at the expense of some upside potential. Clearly, partner Total was willing to take this risk. Africa Oil was willing to wait for the upside, which would be years away. But once the money flowed in, a takeover bid emerged, as happened with Hess (HES). Even then, the offer is for shares, not cash.
Frontera management insists on doing things its way, despite a fair amount of evidence to the contrary. I wish them luck because they will need it. But under no circumstances do I want to be a contributor.
risk
There is a very real risk that the current strategy will fail to deliver shareholder value, and may even backfire. This stock may be stagnant or worse due to the chosen business strategy.
Management is usually the largest asset or liability not on the balance sheet. In this case, there is a very real possibility that management is engaged in a strategy that could be a liability in the long term.
Low bond prices, as mentioned in the question quoted above, indicate too much risk for management even though operations are largely profitable, and management has good debt ratios. This management needs to restore debt market confidence before the stock price goes anywhere in the long term.
One of the big barriers to a successful “value” deal in Guyana is the amount of risk that transfers from now to cash flow years from now. In addition, commodity prices have low visibility and are volatile. The continued decline in commodity prices may lead to the cancellation of nearby Guyana projects, leaving no value for the leases.
Editor’s Note: This article discusses one or more securities that are not traded on a major U.S. exchange. Please be aware of the risks associated with these stocks.
