Nothing is more frustrating than when a perfectly good bargain like Chinook Energy (OTCPK:CNKEF) gets cheaper. There has been some really good analysis on the company and its fundamentals. So why doesn’t the stock go up already? Every now and then it would help for the market to pay attention to some decent analysis.
One of the problems is that Chinook Energy is focusing on gas production. Gas companies have generally been out of favor for some time. But summer is often the weakest part of the year for gas companies unless the weather becomes hot enough to push gas prices up. The market might not be willing to give a micro-cap like Chinook a chance.
Plus, Chinook got rid of some properties to focus on the Montney. It is going to take the market awhile to understand the changes made and determine if those changes are going to be successful.
Source: Chinook Energy Q1 2017 Financial Statement Filing
Right now, the cash flow from operating activities does not look too successful. Cash flow improved quite a bit from the previous year. It improved more to a positive C$1.5 million if the effect of the non-cash working capital accounts is removed. Since it is very unlikely that the non-cash working capital accounts will need net payments every quarter, that positive cash flow will assert itself in the future.
Far more important is the cash balance of the resulting company. That a C$22 million balance is about one-third of the market value of the company. It provides some downside protection for the common stock. The current ratio is now more than 3:1 with no long term debt. This has become a very different company. It is now a financial rock. The market needs time to get used to that idea.
The first-quarter press release starts with a production decrease:
Our production in the first quarter of 2017 averaged 3,514 boe/d, down 39% from the same quarter of 2016 primarily as a result of the Craft Share Distribution. However, our first quarter production for 2017 increased 36% compared to the 2,593 boe/d achieved during the fourth quarter of 2016 related to assets that we still currently own. This increase resulted from our Birley/Umbach area development program and the reactivation of wells in Boundary Lake North, B.C.
Many readers never go past the first sentence. The negative production comparisons may confuse the market for a while. Readers will actually have to do quarter-to-previous quarter comparisons to see the progress. The production mix going forward will be different as will the profitability from specialization.
Source: Chinook Energy May 2017 Annual Meeting Presentation
The company has announced some decent preliminary results. But the cash flow statement has not yet reflected those results. Income was down and profitability in the first quarter was primarily due to a gain, not operational results. The transition from the spin-off of properties with the Craft share distribution has caused the market to wait for results. Negative comparisons will be confusing to the market unless investors dig a little. So the current situation may take a little while to clear up. But the gain could be worth the wait.
The negative comparison in some ways makes it harder for the market to determine progress. Traditional screenings do not uncover promising companies when there are negative comparisons from a spin-off. The negative comparisons distract from the message that Chinook Energy is essentially a brand new company. It cannot really be compared to its history as its history is misleading. The Craft spin-off separated the irrelevant items going forward but not the history.
Investors need to read and do their own homework. Other companies such as Prairie Provident (OTC:PRPRF) and Point Loma (OTC:FMTNF) attract more attention because they have no previous comparison. These companies have a great asset story that all of them must now turn into cash flow and profits. Anytime the company is an asset story, it needs a catalyst for the value to assert itself. For all of these companies, it is the operations story to deliver those promised profits, cash and maybe a future dividend.
Management is predicting some very sizable operating costs decreases now that they can focus on one play. But the market tends to look in the rear-view mirror.
Source: Chinook Energy May 2017 Annual Meeting Presentation
Management is predicting some growth and the wells in the second slide project a decent profitability. The hedging program should guarantee a minimum profitability.
The income statement and the cash flow statement should clear up beginning with the second quarter reporting period. A lot of the one time events should be gone. Mr. Market probably wants to see several quarters of results from the new Chinook Energy. Once that happens, the stock should begin to appreciate to a more reasonable valuation when compared to peers.
Management might also need to make a few presentations to communicate the values of this company to the investment community. Some stocks such as Ring Energy (REI) are never really a bargain because the story is simple and the communication with the investment community is constant. In fact, a company such as Chesapeake (CHK) can keep its stock price afloat, the preferred and bonds prices firm, and the investment community happy despite dismal results through communication. That shows the value of good communications to shareholders. Communication is more important for a company such as Chinook Energy because the spin-off complicates the story line temporarily.
Nonetheless, management has set itself some decent operational improvements that should attract the market attention. By next year, the growth should become apparent on the financial statements without a lot of digging. The stock could appreciate substantially. Costs are slated to become low enough to survive some hostile industry pricing. The debt-free balance sheet gives the company staying power should prices remain abnormally low for awhile. So this company at the current price is actually quite safe. Downside is limited by the substantial cash balance. There are larger companies out there that are far riskier.
Disclaimer: I am not an investment advisor and this is not a recommendation to buy or sell a security. Investors are recommended to read all of the company’s filings and press releases as well as do their own research to determine if the company fits their own investment objectives and risk portfolios.
Disclosure: I am/we are long FMTNF, PRPRF.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I may initiate a position in REI.
Editor’s Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.