Is Gran Tierra Energy Headed for $10 a Share?

A significant increase in oil reserves and production leaves this junior oil play appearing under-valued

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The Motley Fool

Canadian domiciled small-cap South American oil explorer and producer Gran Tierra Energy (TSX:GTE)(NYSE:GTE) has seen its share price pop by 17% over the last year. But despite this strong performance, the company is well positioned for its share price to further appreciate, potentially hitting $10 a share by the year’s end.

Gran Tierra produces and explores for oil and gas in Colombia, Peru, Brazil and Argentina. It has a solid exploration and production asset base spread across those four countries, composed of 10 million net acres. In mid-2013, Gran Tierra made a significant oil discovery in Peru, which after being independently evaluated was found to be almost 62 million barrels of crude. This essentially doubled the company’s oil reserves overnight to 112 million barrels and effectively doubled Gran Tierra’s core asset value.

Yet since the discovery and the subsequent announcement of a reserves upgrade at the end of December 2013, Gran Tierra’s share price has remained flat, indicating the market has yet to price in the full value of Gran Tierra’s oil reserves  — and creating a buying opportunity for savvy investors.

Solid 2013 results bode well for 2014
Gran Tierra also reported some solid operational results for the full year 2013, with production spiking 32% in comparison to 2012 to 22,267 barrels of oil per day. This gives Gran Tierra’s production an impressive compound annual growth rate of 54%. As a result of this growth in production coupled with firmer oil prices, revenue jumped 24% and net income 27% for the same period.

But even more impressively funds flow from operations – a key measure of an oil company’s operational performance – spiked 9%, indicating the core profitability of Gran Tierra’s operations continues to grow. This saw Gran Tierra’s working capital grow 10%, while long-term debt remained unchanged at nil, leaving Gran Tierra with a solid balance sheet.

Future outlook bodes well for further strong operational results
Gran Tierra expects 2014 production to grow by between 6% and 10%, which in an operating environment where oil is still trading at above $100 bodes well for further growth in revenue, cash flow and ultimately the bottom-line. Any significant improvement in the company’s financial performance will certainly boost its share price further rewarding investors.

It has also announced 2014 capital expenditure of $467 million, a 48% increase over 2013, for exploration and production operations in Colombia, Brazil, Peru and Argentina. This will be directed towards drilling a total of 18 wells in Colombia, Peru and Argentina. When coupled with an enviable drilling success rate and those assets being located in proven oil basins, bodes well for its oil reserves to grow further.

Improving Colombian security situation
The improving Colombian security situation and lower volume of terrorist attacks on critical oil infrastructure will also see Gran Tierra continue to boost production and profitability. The improved security situation can be primarily attributed to the increasingly positive peace talks between the Colombian government and the largest insurgent group the FARC.

It is a crucial catalyst for Gran Tierra because in the past the company has missed production targets, because of the inability to transport crude to points of sale due to pipeline outages caused by bombings.

Remains attractively priced
Despite its share price jumping17% over the last year Gran Tierra continues to remain attractively priced when a range of industry specific valuation ratios are considered. The key valuation ratios to consider for oil explorers and producers are their enterprise-value to reserves and EBITDA and typically the lower these ratios, the cheaper the company.

Gran Tierra has an enterprise value of 12 times its oil reserves and a mere 3 times its EBITDA, indicating it is undervalued. This becomes clearer when compared to its Colombian based peers as you can see from the table.
Gran Tierra Val Table 100314 Of the peers compared, Gran Tierra has the lowest EV to oil reserves and EV to EBITDA.

Foolish bottom line
Gran Tierra continues to perform strongly and as its valuation ratios indicate, the company is still relatively cheap, particularly in comparison to its peers. When considered in conjunction with growing production and a significant increase in oil reserves it is clear its share price will continue to appreciate over the remainder of the year.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Matt Smith does not own shares of any companies mentioned.

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