Post-Earnings Update on AMPY

Beta opportunity remains undervalued

Amplify Energy (AMPY) — initial post here, last update here

To cap off a week full of earnings updates, in this post I am sharing an update on another portfolio position, AMPY.

Before diving in, here’s a quick refresher for those unfamiliar with the investment thesis. AMPY is an oil and gas producer that offers an attractive way to invest in the energy space. The company is trading at c. 4x 2024E EBITDA and 8x FCF. These are undemanding multiples for an O&G company with low-decline, long-reserve-life assets that have consistently generated cash flow in recent years. What makes AMPY particularly compelling is that its cash generation might be on the cusp of an inflection point due to the recent development of its key world-class oilfield asset, Beta. If successful, new well drilling at Beta could create incremental value multiples above the current share price.

This week, AMPY reported Q3 results. Here are three key highlights:

• Beta’s development continues to progress.

• AMPY continues to demonstrate solid operational performance.

• The Bairoil monetization process concluded without a transaction.

Let’s start with the key update—on the Beta drilling program. As a reminder, earlier this year AMPY initiated a new well drilling program with the intention of drilling four wells in 2024. While the company experienced equipment issues during the drilling of the first well, which was subsequently delayed, the second well was drilled successfully in Q2, with results significantly exceeding management’s initial expectations.

AMPY continued the development program in Q3, successfully drilling a new well during the quarter. The drilling results were, again, positive, with the 30-day production rate coming in at 590 bpd, substantially above management’s initial guidance of 350 bpd. Capital expenditures incurred stood at $5.9m, which is in line with the $5m-$6m range initially provided by the company. AMPY’s management expects the well to pay out in six to nine months, compared to the initial estimate of one year. Here, I would highlight that AMPY has stated that production from the wells has minimal operating costs (only $2 to $3 per barrel), meaning that the vast majority of revenues are converted into free cash flow. So, the production rate and estimated payback period for the third well were solid and highlight the impressive economics of the Beta development program.

AMPY now intends to develop another well, expecting to bring it online in mid-November. Management plans to provide further Beta development updates in Q1’25, including the number of new wells expected to be drilled next year.

As for the core business operational performance, Q3 was another solid quarter, with steady production volumes across most of the company’s assets. AMPY continues to generate ample free cash flow (see the slide below). Regarding the outlook, management reiterated the 2024 guidance.

As for the Bairoil monetization process, AMPY’s management announced that, after evaluating a number of proposals, the company decided to retain the asset amid volatility in crude oil prices. Is this ideal? Clearly not, as a potential divestiture of Bairoil would have allowed AMPY to eliminate the majority of its debt and/or initiate a large capital return. However, given the weakness in the crude oil market, I would guess that the company has not received appropriately priced bids, and thus the decision to conclude the monetization process without a transaction seems like the right one. During the call, management indicated that while a near-term transaction is unlikely, the company remains open to a potential deal down the road.

So, that’s a quick overview of AMPY’s Q3 earnings. The key takeaway from the earnings release is the continued success of the Beta asset development, with another well drilled, demonstrating the asset’s potential.

Let’s now quickly reassess where we stand from a valuation perspective. At current prices, AMPY is trading at 3.6x TTM EBITDA and 9.4x FCF. The closest publicly traded peers, BRY and REI, are currently trading at 3x EBITDA and 3x-6.3x FCF multiples. So, given that AMPY trades at a premium to these comps, you could reasonably conclude that the market is already ascribing some value to the Beta optionality. As a very rough estimate, valuing AMPY’s core business at 3x EBITDA, in line with both BRY and REI, would imply that the Beta development is valued at $66m by the market.

So, what is Beta’s intrinsic value? Well, I believe it is substantially higher this figure. To illustrate this, let’s model Beta’s cash flow generation. Assuming a four-year asset life for the new wells and production volumes tapering from 400 bpd to 100 bpd over that period, four wells could generate c. $80m in four-year undiscounted FCF, not too far off from the ‘implied’ value.

So, why do I believe Beta’s value is substantially higher? Well, I think my assumptions are too conservative:

• The first-year production estimate, 400 bpd, might be too cautious. I would note that, during the Q3 conference call, AMPY’s management noted that the second well, drilled in Q2, has averaged 500 bpd for five months since coming online. A related aspect is that the estimated decline in annual production might be too steep. AMPY’s management has highlighted that the declines of the wells are expected to be "fairly flat."

• The estimated production lives are likely to be longer than four years. I would highlight that, as of 2023, Beta's asset life (calculated as net proved reserves divided by average net production) stood at around 12 years.

• AMPY is likely to expand its drilling program given the success thus far. Management has previously indicated that the current infrastructure allows for scaling up Beta’s development to 12 wells per year.

With more optimistic assumptions, such as eight wells and a gradual production decline from 500 bpd to 100 bpd over five years, Beta could generate around $280m in total four-year FCF, or c. 70% of AMPY's current EV. While this is an imprecise estimate, it directionally highlights Beta's potential value and shows that Beta remains underappreciated by the market. As investors become increasingly aware of Beta's cash flow generation potential and value, I would expect a re-rating of AMPY's stock. A potential catalyst could be AMPY's management providing an updated reserve figure at year-end, which will include reserves from Beta’s already drilled and future wells.

With the investment thesis intact, I continue to think AMPY remains a compelling opportunity, and I have maintained my position.