Investing

I wrote about Opti in November '08 here. Since then they have made some major changes to their capital structure. They sold 30% of their project equity to Nexen, their partner, for cash. This generated just enough cash to survive. If the whole company was purchased on the same terms, then there would be enough money to redeem the bonds at 80c on the dollar. Equity would be worthless.

The worry now, after the recapitalization, is whether or not they can meet their new covenants. It's relatively easy to analyse OPC's cash flows and it seems quite likely that they will meet the covenant in Q3 09. Failure to meet the covenant is not necessarily a death sentence. They can simply not draw against the revolving loan (in which case the covenants don't matter) or they could negotiate temporary relief. My analysis shows they will have about 100M drawn on the revolver by Q3, though they could manage this to a lower number. The covenant is the ratio of the drawn down revolver amount (first lien debt) to EBITDA with a maximum ratio of 2.5 to 1. The price of oil isn't terribly important due to OPTI's hedges. I have assumed a flat $45 for the year.

On this basis EBITDA will be around $44m annualized which provides a debt ceiling of around $110M. The January '10 quarter looks to be more of a problem. I expect annualized EBITDA of nearly 56M which provides a ceiling of $140m but I expect debt to be drawn down by about 146M. Again they can probably manage away $6m but it's quite tight. From Q2 2010 I expect OPTI to be well within this covenant.

The next interesting problem is their ability to participate in future phases of development. They expect 6 phases, with the current phase being phase 1. I don't expect they will be able to participate in phases 2 or 3 without substantial, additional financing. I have assumed they will not be able to secure such financing.

Assuming:

• No participation in phases 2 or 3
  
• Substantial repayment of debt, starting in 2011
  
• WTI of $60 in 2010 rising to $75 by 2013 and then rising by inflation
  
• A high risk period cost of equity of 22.6%
  
• A low risk period cost of equity of 10%
  
• A 30% discount based on chance of a B3 bond defaulting over the high risk period (if the bond defaults then equity is worthless)

Then OPC is worth about $2.31. It has traded as low as .61c but is currently trading at $1.82. There is probably a small option value in their right to participate in future phases (if oil is trading at $200 then they will be able to secure funding for the earlier phases). This is not reflected in my valuation; $2.31 is a conservative floor.

The fair value estimate is based on considerable risk. As they de-risk their business their value will increase substantially. At a fixed 10% discount rate (all the other assumptions remain constant except the 30% discount) OPC is worth $7.30.