Touchstone Exploration (LSE:TXP) has delivered strong news flow this year, reporting a 20pc jump in reserves, the start of its 10-well drilling program, and the introduction of a second rig to accelerate its operations. We have already argued (here, here, and here) that the market has not yet woken up to this company’s progress and prospects. With the firm’s share price still sitting at 12p on the offer, despite strong results last week, we caught up with CEO Paul Baay to discuss the business’s future as the company steams towards becoming fully profitable.
Into the black
The end of last month saw Touchstone release a ‘transformational’ set of 2017 results that revealed it had become profitable at the Plc level following its dual listing last June. The company reported a financially sound balance sheet including a headline $3.1m in free funds generated from operations. This is the figure remaining after all operational costs, taxes, royalties, and Plc overheads have been taken away. As can be seen below, the results also saw Touchstone re-iterate a 20pc jump in its total proved reserves across its assets in the Republic of Trinidad and Tobago to 10,733Mbbl.
Aside from strengthening oil prices, growth was supported by Touchstone’s $9.4m exploration and development program. This saw it drill four successful wells and perform 20 recompletions over the 12-month period. The firm was further supported by its reduction in operating costs. Indeed, excluding a one-time $811,000 prior period abandonment fee adjustment recorded in 2017, annual operating costs decreased 6pc on a per barrel basis from 2016. Likewise, operational netback increased by 50pc to $22.56 per barrel. Baay told us changes to the organisation’s operational structure have allowed it to increase its reliance on fixed fees, reducing relative costs as oil prices and production growth. He explained:
‘Nearly two-thirds of our costs are fixed, meaning, for example, that whenever the price of oil increases by a dollar, two-thirds of this falls directly to our bottom line. With oil prices improving, we are therefore becoming more profitable on a per barrel basis. We would have lost $345,000 in 2016 without the derivative gain and now we are north of $3m without any derivative gains. What’s more, the price of Brent is continuing to perform strongly into 2018, an encouraging sign for this trend to continue going forward.’
Alongside its strong fund flows, Touchstone reported a healthy end-of-2017 cash balance of $13.9m (£9.9m), including a working capital surplus of $6.8m. This follows last December’s £3m placement, which was conducted to fund this year’s 10-well drill programme. Furthermore, despite incurrent additional finance costs as a result of fees relating to a term loan established in November 2016 to aid growth, the company managed to reduce net debt by 42pc over the year to $8.2m. With a current market cap of £15.2m, Baay said Touchstone is currently trading at around 2X cash flow, well below its peers. He went on to say:
‘If you look historically, companies like us normally trade at 4.5-5X their cashflow multiples. Internationally, a larger equivalent of us would be Parex, which trades in Canada and operates in Columbia and is trading around this level. On the smaller front, companies like Trinity are trading at around 5X cashflow multiples.’
The case for Touchstone being undervalued strengthens further when you look at news flow since the end of 2017 and plans for the year ahead. At the end of February, the firm revealed it is well on its way to meeting its profitable production target of 1,800bopd, with production hitting 1,521bopd in January and 1552bopd in February. As of March 25, Touchstone said that it has field production of 1,654bbls/d. This marks significant progress when you consider that Touchstone’s average 2017 production sat at around 1,375bopd.
Perhaps most excitingly was the news that Touchstone has brought into production the first well of its accelerated 2018 10-well drill program, and the subsequent news that it has secured a second rig for accelerated drilling. With the results of nine wells still to come, Touchstone seems to be within touching distance of full profitability, It could achieve this within months.
Not only would accelerated profitability give Touchstones the scope for more drilling, but it could provide an opportunity for some serious revenue generation – and in turn accelerated profits – by year-end. With petroleum revenues already jumping by around a third last year from $24m up to $32m, it is entirely possible that Touchstone could be generating in excess of $1million in free cash flow each month by year-end. The business’s ability to fund future growth through internal funds will be music to the ears of investors.
As Baay put it to us: ‘Now we are using two drilling rigs to accelerate the program, we are really looking to complete after mid-year. Hopefully, we will have all 10 wells drilled by the end of July or August. This gives us some flexibility if we want to add some wells to the program after that. When you look at where we are at, by year-end we are going to have cash flow of well over $1m a month. That is a big number when you think that we will be generating the same amount every month as we made every quarter last year.’
Far from resting on its laurels once its near-term goals are reached, Touchstone has an entire exploration side of its business to develop. A major part of this is the 14,400-acre East Brighton Block located in the North West of Trinidad, where the firm has a 70pc working interest.
In last month’s results, Touchstone announced that it had reduced its $6m letter of credit related to the licence to $2.15m and had secured a financing facility to support the full amount. Under the original terms of the East Brighton deal, Touchstone has committed to drilling one well to secure its stake. This was originally anticipated to be an offshore well but, following reinterpretation of the available 3D-Seismic, Touchstone’s engineers have identified an onshore site within the East Brighton licence area. This can then be drilled horizontally to hit the primary offshore target while costing far less than drilling an offshore well.
This has freed up Touchstone’s working capital, meaning the company can fulfill its obligations to East Brighton while freeing up funds to deploy across the rest of its portfolio as it sees fit. Baay told us the well will probably be drilled in early 2019, either by Touchstone itself or – preferably – with the support of a partner. Right now, he says two parties are interested in the project.
He said: ‘East Brighton’s 3D seismic shows that it is a very interesting prospect. We are in the middle of getting a certificate of environmental compliance, which usually takes around six months. As a result, we expect we will be ready to drill the well by the first or second quarter of next year. For the time being, the money we saved from the $6m letter of credit has gone towards funding the 10-well drilling program. East Brighton’s plot is right next to Trinity E&P’s Brighton Marine licence, which it agreed to sell for $4.55m last year. We think it would perhaps look logical for the buyer to participate in our wells or farm-in into our block. We are letting that process playing through at the moment. ‘
Perhaps the most exciting exploration opportunity in the medium-term, however, is the 35,785-acre Ortoire Block on the East of Trinidad, where Touchstone has an 80pc interest. To date, 77 wells have been drilled at Ortoire and four established pools have been found on the block. These are named Balata West, Mayaro, Maloney, and Lizard Springs. A large amount of technical work has been carried out in the area to support low-risk exploration, and, as the map below shows, nearby discoveries show a great deal of upside potential.
Having already carried out development drilling at Ortoire, Touchstone plans to begin drilling wells at the licence throughout 2019 and 2020 and is currently waiting for a certificate of environmental compliance.
Due to the presence of the four potentially large pools, Baay believes Ortoire’s potential could extend far beyond the initial work program that will initially be carried out at the licence. He told us:
‘Each of those initial wells we drill will represent a new pool or field. But this is not just four or five new targets, it is four or five new fields to develop, and these will have multiples of those locations if they are successful. There is a huge amount of potential here.’
The bottom-line is Touchstone has become profitable at Plc level within just a year of dual listing on AIM and is likely to exceed its 2,000bopd production target by late summer, with the scope to extend drilling further. Those who not yet bought into the company should consider for a moment that its market cap currently sits just a little over £15m. This is a firm that is confident it can make more than $1m of free cash every month by year-end and has already lined up two massive, potentially self-funded exploration opportunities to develop in the future.
In a recent exclusive presentation on ValueTheMarkets.com, Baay said Touchstone plans on becoming a 5,000bopd producer by 2020. This is a point he rounded off nicely in our most recent conversation:
‘We want to be the largest, most profitable produce onshore in Trinidad. We keep talking about this 2,000bopd milestone, but that is just a starting point for us rather than a finishing point. It’s simply a step on the way to 5,000bopd.’