Gear announced its borrowing base re-determination last week. The credit line is getting cut from $90mm to $60mm. There is an immediate cut to $75mm, with incremental $5mm cuts that will become effective Sept 30 / Dec 31, 2020 and March 31, 2021. So the borrowing base will be $70mm on Sept 30, $65mm by Dec 31 and $60mm by March 31, 2021.
The quantum of the credit line cut is in line with what is being observed for similarly sized oil / gas companies across Canada. The big difference for Gear is that unlike a lot of other small sized producers it had low pre-existing leverage and it will therefore a) be able to manage it’s liquidity effectively even with the production cut and b) will qualify for the government’s BDC borrowing program for small / medium sized energy companies. Gear’s primary lender will apply for the program and in the next few weeks.
The BDC program is designed to help small oil / gas companies that have been impacted by COVID-19 and that were viable businesses prior to the virus impacting the economy. In other words highly leveraged producers will not be bailed out. The size of the program is the sweet spot for a company of Gear’s size. See details below:
The program will be structured as a term loan with a maturity of 4 years, and it will be junior to the company’s existing credit facility in terms of subordination. The max size of $60mm is more than enough for Gear’s needs given management is forecasting $54mm balance drawn on it’s credit facilities even if WTI averages US$35.
For the convertible debenture ($13mm) due in November, the company is likely to negotiate with Burgundy to extend the maturity of the convert. Burgundy has been a long-term supporter of Gear and I’m optimistic that there will be a good outcome there.
Cardinal Energy recently executed a similar exchange for their convertible bond that could be a good template. Interest rate will be higher and conversion price likely lower than the current (current conversion price and interest rate at $0.87 and 4% respectively). However, in the grand scheme of things this is a small price to pay for the massive free cash flow torque to higher oil prices Gear will benefit from in the coming years.
In Cardinal’s case interest rate went up from 5.50% to 8.00% and conversion price was 125% the stock price at the time of the exchange.
Gear also announced recently that it has restarted it’s production program in light of the rebound in oil prices (WTI back to $40). July production is expected to be 5000 boe/d and August will be 6000 boe/d (compared to 1300 boe/d in May and 3700 boe/d for June). For the full year, average production will be 5200 – 5300 boe/d with capital expenditures of $13mm. This should allow Gear to be FCF breakeven while using it’s hedges to reduce it’s debt levels.
Gear has an excellent hedge program which will provide additional liquidity / cash support throughout the year. Based on the price deck I used below, I arrived at a ~$15mm value for the hedges, which is ~35% of the current market cap.
In conclusion, despite the hellish macro environment we are in, there is light at the end of the tunnel for Gear. A combination of govt.’s backstop facilities, hedges, long-term shareholder support and (most importantly) management’s culture of conservativism will help see the company through this crisis. Gear remains the largest investment in my portfolio.
The Pale Blue Dot 