Yangarra Resources Ltd (TSX: YGR) is a Canada-based company engaged in exploration, development and production of natural gas and oil. It conducts operations in Western Canada and has a main focus on Central Alberta, where the company has infrastructure and landholdings. Yangarra Resources Ltd has an interest in areas such as Medicine Hat and Jaslan, both located in Alberta. Central Alberta field is located north of the town of Rocky Mountain House, where The Company holds an interest in over than 100 sections. Medicine Hat is located south of the city of Medicine Hat and the Company holds Interest in 120 sections approximately; Jaslan is located 120 kilometers north of Edmonton city, and the company has an interest in around 30 sections.

Investment Rationale

• Insiders Remain Net Buyers: Strong insiders buying activity has been taken place over the past six months in the stock. In 2020, YGR shares recorded big swings led by extreme volatility in crude oil prices in the wake of COVID-19 pandemic. The stock has gone from a high of CAD 1.53 in January 2020 to a low of 0.265 in March 2020. In the below-mentioned chart, it is depicted that the insiders remain the net buyer in 2020 and utilized free fall in the stock as an opportunity to accumulate more shares. Also, strong insiders buying near year’s low helped the company’s shares to move up, and at the last closing, the stock was up approximately 150% from the year’s bottom and heading higher. Further, in the month of November, insiders buying took place in the counter at an average price of CAD 0.48, which implies that strengthened oil prices have again infused confidence among insiders. The strong insider’s activity gives a lot of confidence to the retail investors to punt on the small-cap oil & gas exploration company.  

Insider’s Activity. Source: Refinitiv (Thomson Reuters)

• Improved Margin Profile on Sequential Quarter Basis: Despite a lower performance on a YoY basis, the company has recorded solid recovery in margin profile on a sequential-quarter basis. The company’s gross margin during the third quarter of FY20 stood at 79.2%, improved by 940bps against the sequential quarter. EBITDA surged to 71.7% in the same quarter from 51% reported in the previous quarter, implies a jump of 20.7 percentage points. Operating margin surged to 34.6% from 3.4% in the second quarter of 2020, leapt up 31.2 percentage point. Net margin returned to positive 3% against negative 17.5% reported in the previous quarter. The improvement in the company’s margin profile was primarily driven by a solid recovery in the oil prices in the third quarter of 2020.

Source: Refinitiv (Thomson Reuters)

• Positive Spreads Between 12-day and 26-day EMAs: Exponential moving average is frequently tracked technical indicator among the analyst community. In the case of YGR, the short-length 12-day EMA has crossover its long-length 26-day EMA, which is generally considered to be a bullish indicator. Also, the leading momentum indicator, the Moving Average Convergence Divergence (MACD) which tracks the spread between 12-day EMA and 26-day EMA is rising and oscillating above its 9-day SMA signal line. This is another bullish indicator and shows technical strength in the counter.

12-day and 36-day EMA Price Chart (as on December 08, 2020). Source: Refinitiv (Thomson Reuters)

• Registered a Breakout on the Daily Price Chart: On the daily price chart, shares of YGR has registered a bullish breakout, with price crossover the crucial long-term resistance level of 200-day SMA and short-term crucial resistance level of 50-day SMA. This is a bullish technical indicator in the stock. Also, at the last closing, its shares traded approximately 20% above the 200-day SMA, implies that the stock has created a strong long-term support level and hovering well above the long-term support level. Also, YGR’s immediate, short-term and long-term moving averages are rising, which is another positive technical indicator.

Technical Chart. Source: Refinitiv (Thomson Reuters)

• A Golden Cross Pattern is Likely to Appear on the Daily Price Chart: On the daily price chart of YGR, a golden cross price pattern is creating where the short-term 50-day moving average is about to cross YGR’s long-term moving average of 200-day SMA. A golden cross is a rarely formed pattern, and typically considered as a strong bullish indicator among the technical analysts. The golden cross is a bullish breakout pattern formed from a crossover involving a security's short-term moving average breaking above its long-term moving average or resistance level.

Gold Cross Pattern. Source: Refinitiv (Thomson Reuters)

• Risk Associated with the Investment: The company’s financial performance is largely linked to oil and gas prices. Hence, big swings in the commodity prices would also bring big volatility in the group’s financial performance, as we have witnessed in the past. Also, a higher debt could be a concern as it increases balance sheet risks for the company.

Financial Highlights: Q3FY20

Source: Refinitiv (Thomson Reuters)

• During the third quarter of 2020, the company’s revenue stood at CAD 18.91 million, down 40% on a YoY basis; however, improved by 16% on a sequential quarter basis. The YoY decline in the group’s revenue was mainly driven by significantly lower revenue from Crude oil.
• Crude Oil revenue plummeted 57% to CAD 9.7 million, mainly because of significantly lower oil realization price on a YoY basis.
• Revenue from Natural gas division improved 38% on a YoY basis.

Source: Company Filing

• During the quarter, Average production of 8,409 boe/d (46% liquids) decreased 34% from the same period in 2019.
• Funds flow from operations of CAD 10.0 million, a decrease of 47% from the same period in 2019.
• Adjusted EBITDA (which excludes changes in derivative financial instruments) was CAD 12.6 million.
• Net income came in at CAD 0.5 million, a decrease of 92% from the same period in 2019
• Operating costs stood at CAD 6.10/boe (including CAD 1.28/boe of transportation costs)
• Operating netbacks, which include the impact of commodity contracts, were CAD 16.67/boe
• The company’s Net Debt stood at CAD 193.9 million. Net Debt to third quarter annualized funds flow from operations was 4.8:1.
• Yangarra has reduced drilling and completions costs by 20-25% as compared to pre COVID-19 wells as a result of the addition of a construction division, revised well designs, water handling improvements and a variety of other structural cost saving initiatives. This would allow the Company to achieve rates of return above internal thresholds on new wells with oil below US$ 40 WTI.
• With capital efficiencies improving materially along with the strengthening of natural gas prices and more stability in oil prices, Yangarra elected to complete four previously drilled wells and drill one additional well for the third quarter. For the next two quarters, Yangarra will match its capital budget to cash flow.

Top 10 Shareholders

The top 10 shareholders have been highlighted in the table, which together forms around 16.8% of the total shareholding. Gordon A Bowerman and James G Evaskevich hold the maximum shares in the company at 4.3% and 3.1%, respectively. Claret Asset Management Corporation is the second-largest shareholder, with a holding of 9.99%. Institutional ownership in the company stood at 5.27%, and strategic ownership stood at 14.08%.

Source: Refinitiv (Thomson Reuters) 

Valuation Methodology (Illustrative): EV to EBITDA based Valuation Metric

Note: All forecasted figures have been taken from Refinitiv (Thomson Reuters)

Peer Comparison

Source: Refinitiv (Thomson Reuters)

Stock Recommendation: The group’s performance in the third quarter of 2020 was significantly better than the previous quarter; however, deteriorated when compared on a YoY basis, on account of big swings in the oil market. During the quarter, the company has outperformed the industry significantly in terms of margin profile and RoE.

Source: Refinitiv (Thomson Reuters)

The company has maintained a solid margin profile over several quarters. However, the performance deteriorated in the first half of 2020 as the sector was going through a steep pain owing to COVID-19 pandemic. Oil prices recorded a relief rally in the recent past and consequently, the group’s performance rebounded.

Source: Refinitiv, Thomson Reuters

Going forward, we expect oil demand to improve as the world is hopeful of getting the vaccine for COVID-19, which would support the oil demand and subsequently oil prices. Improved oil prices would result in better financial performance for the group.

Further, insiders remain net buyer throughout the 2020, which should provide confidence to the retail investors. Also, technical indicators are suggesting a bullish price trend in the stock.

Therefore, based on the above rationale, risk factors and valuation, we have given a “Speculative Buy” rating at the closing price of CAD 0.66 on December 8, 2020.

1-Year Price Chart (as on December 8, 2020). Source: Refinitiv (Thomson Reuters)

*Recommendation is valid at December 9, 2020 price as well.

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