DALLAS, May 1, 2013 /CNW/ - Gale Force Petroleum Inc. (TSXV: GFP) (OTCQX: GFPMF) (the "Company" or "Gale Force") today responded to the letter dated April 25, 2013 (the "Letter") sent to the Company by Iroquois Capital Opportunity Fund LP, Iroquois Master Fund Ltd., Scot Cohen and Joshua Silverman (collectively, "Iroquois"). The full text of this response letter, which has been authorized and approved by the independent members of the Board of Directors of Gale Force, is reproduced below:
We would like to begin our response by expressing our great surprise in having received your publicly disseminated Letter. You state in the Letter that you have "reached out to management time and time again". Respectfully, this is not the case. Management of Gale Force has always remained available to speak with you, just as it is available to address any of the concerns of any of its other shareholders. Moreover, Iroquois has a nominee who sits on our Board of Directors. Despite these various channels of communication that are and have always been available to you, in the past 12 months, Management of Gale Force has not received a single phone call, email, Board intervention or other communication from you or your representatives to discuss any of the comments or concerns raised in the Letter. We also note that, to the best of our knowledge, Iroquois neither attended nor voted at the last annual shareholders meeting of the Company held on December 15, 2012.
While we agree with you that Gale Force is currently undervalued in the markets, you put forth a proposal to change the management and directors of the Company without naming any specific replacements and without revealing any strategic plans for enhancing value. It is therefore impossible for the Board of Directors to evaluate the merits of your vague request for change. Rest assured that the Board of Directors, in the discharge of its fiduciary duties, constantly considers the best interests of all of the shareholders of Gale Force. The alignment of the interests of the Board of Directors with those of the shareholders is even further strengthened by the fact that, excluding the Iroquois nominee, the Board currently directly owns or represents with a fiduciary responsibility over 15% of the outstanding common shares of the Company. We would therefore gladly entertain any specific recommendations that you may choose to offer, and look forward to the opportunity to discuss them with you in a direct and constructive manner.
The Company is currently pursuing the strategic plan outlined in detail below, which the Board of Directors believes is in the best interests of the Company and its stakeholders and will maximize value for the Company's shareholders. Further, given that you have taken the unfortunate route of making your grievances public, and that you have made a number of allegations in the Letter that are simply untrue, we will also take this opportunity to set the record straight regarding those allegations.
The Company's Strategic Plan
As Iroquois is no doubt aware, in a press release issued on April 12, 2013, the Company stated that it had initiated a strategic review process in order to consider alternatives available to the Company which would allow it to enhance its value for the benefit of its shareholders. The alternatives to be considered include seeking strategic partners for investment, identifying a buyer for the Company or concluding another type of business combination. Management continues to be actively engaged in this process.
The Company's original business plan was to acquire and aggregate underdeveloped or distressed oil and gas properties in the southern USA, taking advantage of the general undervaluation and underinvestment that existed in the region following the financial crisis and oil price collapse in 2008/2009. The funding for these acquisitions and property development projects was to come from a combination of equity raised though Canadian markets and low-interest US bank debt. An analysis of Company fundamentals demonstrates that current Management, under the stewardship of the current Board of Directors, has done an excellent job executing this plan and creating fundamental value for shareholders.
In three years, the Company has completed 10 important acquisitions, two property dispositions and various smaller transactions, which, in the aggregate, have grown the Company's total oil and gas production from zero to over 300 BOE per day, and have grown its proved and probable oil reserves from zero to 1.5 million barrels oil and 3.5 million Mcf of natural gas, with the net present value of these reserves being estimated at $60 million.
However, the macroeconomic conditions that helped make the Company's business plan successful have changed. Oil and gas properties in Texas are now generally fairly and fully valued, and it has become extremely difficult for micro- or small-capitalisation junior resource companies to generate interest in their stock or raise funds by issuing equity. This has forced the Board of Directors, which includes the nominee of Iroquois, to initiate the strategic review described earlier.
Strategic Alternative Review Process
In furtherance of the repositioning of the Company in response to this changing economic landscape, the Board of Directors has already taken some very important steps. First, with the sale of the Gregg & Rusk Counties and Oklahoma properties, non-core assets were divested of in order to streamline the business and strengthen the balance sheet. Through these dispositions, the Company has greatly reduced its liabilities and simplified its operations, thereby providing it with the financial means and operational platform with which to patiently seek out attractive business combination opportunities.
The next step in the strategic repositioning of Gale Force, which has been underway for the past few months, is to further prove up the value of the Company's oil and gas assets and acreage using existing capital resources. There are two main components to this phase: (1) performing new, additional, in-depth engineering and geological studies of key properties that build on the geological, seismic and engineering studies performed during the last 12 months and take into account the valuable reservoir information that has been gleaned from recent operations, and (2) investing limited funds in order to increase the Company's proved developed producing reserves and further demonstrate the economic viability of key reservoirs.
It is the Company's intention to conclude this repositioning of the Company, and thereafter to hire a strategic advisor to provide further assistance in connection with the canvassing of strategic alternatives.
In our view, the foregoing objectively demonstrates the clear understanding that the Management and the Board have of the environment in which Gale Force operates, and the clear vision that they share as to the most effective means of creating value for the Company's shareholders and other stakeholders.
Gale Force Share Price vs. Market
In the two years since Iroquois made its initial investment in Gale Force, the following chart shows that the Company outperformed the market in the first year, and then underperformed the market in the past year, thereby bringing the Company's stock value back into line with the market. A similar conclusion can be drawn when looking at indices created from two peer groups. The first peer group index is a group of the 53 TSX Venture Exchange-listed oil & gas producers with revenues between $1 million and $10 million for which data is available. The second peer group index is comprised of nine companies in North America with oil-weighted production and assets in the Southern USA and market capitalizations of approximately $200 million or less.
Click here to see Performance vs. Market chart
Therefore, in stating that Gale Force's share price has deteriorated by 70% over the past year, as illustrated in the following chart, you conveniently cherry-pick the dates of measurement that provide the most negative portrayal.
Click here to see Gale Force High and Low, Iroquois Selling Pressure chart
As you know, Gale Force is a relatively small junior resource company with limited liquidity in the trading of its shares, thereby resulting in high volatility in its share price. When large quantities of shares are bought or sold on the market, it can have a material impact on the Company's share price. Therefore, if a large shareholder disposes of significant quantities of shares, this can greatly impact the market.
Our records show that between April 2012 and November 2012, Iroquois Capital Opportunity Fund, L.P. converted 4.95 million of its preferred shares into common shares, and such records lead us to believe it sold approximately 4 million of these shares on the market during that period. This significant selling of shares coincides with the largest part of the decrease in the Company's share price during the period you reference, as illustrated in the chart above.
Investor Relations Firm
Given the broad, severe declines in junior resource equities from September 2012 onwards, and with the belief that one of the Company's large shareholders was in the process of selling significant quantities of shares, the Board of Directors did not view it as being likely that investor relations efforts could result in an increase in the Company's share price to an extent which would be sufficient to allow the Company to finance accretive growth by issuing new equity. Under these circumstances, contrary to what you would have suggested, the Board (including the nominee of Iroquois) made the responsible decision that promoting the Company's shares would be a poor use of its limited resources, and instead decided to focus on preparing the Company for the shift in strategic direction described above.
When Iroquois made its investment in Gale Force in May 2011, the Company created a Technical Committee that reviewed and approved all capital spending until its mandate was terminated by the Board one month ago. Two of the three members of the Technical Committee were nominees of Iroquois.
Additionally, one of these two nominees to the Technical Committee also served as the Company's Chief Technical Advisor, overseeing all development operations of the Company until his contract was terminated by the Company one month ago. We therefore find it surprising that you criticize the Board and Management of Gale Force for the Company's operational results in circumstances where Iroquois' nominees were so intimately involved in and responsible for the Company's operations.
We therefore agreed with your pretention that certain changes in Management were needed; however, we have already implemented those changes that we deem to be appropriate.
Furthermore, we do not see any coherent basis for the criticism of operating results being expressed by Iroquois. In the past three years, setting aside the temporary operational setbacks experienced in the fall of 2012, which we shall address below, Gale Force has delivered on its plan to grow reserves and production, as illustrated in the following charts.
Click here to see Production Growth chart
The next chart shows growth in reserves quantities and the present value of future cash flows using a 10% discount rate:
Click here to see Reserves Growth chart
Temporary Operational Setbacks - Fall 2012
In August and September 2012, as part of a broad capital investment program, the Company set forth to re-complete a shut-in well (the "CC#3 Well") and drill a new well (the "CC#4 Well") on its Texas Reef properties. These operations procedures were designed and recommended, and their execution was overseen, by Iroquois' technical nominee to the Company, and had the full support of the Company's Management.
Had the results from these two wells been as expected (or simply in line with the other two high-netback commercial wells which the Company owns on the Texas Reef properties), the Company would have continued its steady production growth. However, there were unforeseen geological and engineering setbacks encountered by the Company in both operations.
As for the re-completion of the CC#3 Well, in order to increase production the Company attempted a large stage frack with the intention of comingling production from two zones. In doing so, connectivity was established to a significant water zone, thereby making the well uneconomic with the current completion. Since then, we have attempted to establish production in the lower of the two zones, but those attempts have failed. We believe that the way to move forward with the highest chance of success is to abandon the lower zone and attempt to establish production in the upper Rodessa zone. In the coming weeks, the Company will be attempting a new re-completion of this well, which we hope will achieve commercial production.
As regards the drilling of the CC#4 Well in September 2012, despite control from an offsetting well that has produced over 70,000 barrels of oil cumulatively, as well as 2D and 3D seismic geophysical mapping, the well was drilled down-dip from that offsetting well at the water transition point in the reservoir, which means that an alternate completion to what was originally planned will be needed. We are currently waiting for the results from the new CC#3 completion prior to attempting any further operations to achieve commercial production from this well.
There exist several highly economic wells in the Texas Reef field area, two of which are currently owned and operated by the Company. The setbacks described above, while undesirable, have allowed the Company to learn a tremendous amount about the reservoirs on its properties, which will serve to inform future operations. The poor results on the CC#3 and CC#4 wells thus far are due to engineering and geological factors that, based on this experience, can be avoided on future operations. Re-completions of these wells may yet result in their commercial production, bringing them into line with our other two highly-profitable wells in the area. There also remain numerous additional development opportunities throughout the field on the over 4,000 net acres owned by the Company.
Gale Force Current Operations Status, Reserves Value and Enterprise Value
Following the sale of its non-core Gregg & Rusk Counties and Oklahoma properties last month, the Company currently has approximately 300 BOE per day of gross production, with a significant majority of its oil production hedged through to the end of 2014 at over $100 per Barrel, which will help ensure cash-flow positive and profitable operations through that period. Furthermore, extracting these properties from the engineering assessments performed in accordance with NI 51-101 standards by an independent engineering firm, the estimated value of future cash flows from total proved and probable reserves using a 10% discount rate would be upwards of $60 million.
To correct your analysis of the Company's valuation, its market capitalisation at market close the day prior to the Letter was $13.5 million, as opposed to $12 million. Moreover, if one were to include the Company's $5.5 million of bank debt, the Company's total enterprise value ("TEV") was $19 million.
Growth vs. Peers
To assess comparative performance, the Company again looked at two peer groups. The first peer group index is comprised of nine companies with oil-weighed production and assets in the Southern USA and market capitalizations of approximately $200 million or less. The second peer group index is the 53 TSX Venture Exchange listed oil & gas producers with revenues between $1 million and $10 million for which data is available. In analysing this data, it becomes apparent that in the past three years Gale Force has achieved above-average increases in production and reserves when compared to other like companies, while incurring lower general and administrative costs ("G&A") than its peers (please refer to the charts below), indicating a high degree of management efficiency and discipline.
In short, Gale Force has concluded far more value creating transactions than the majority of its peers, and has grown reserves and production at above market rates, while arguably taking less risk, given the nature of its business plan.
The following chart shows the Company's well above-average growth in proved and probable oil and gas reserves:
Click here to see Reserves Growth vs. Market vs. Peers chart
The following chart shows that Gale Force has above average production growth, despite its low risk growth methods, and despite the recent, temporary operational setbacks described above:
Click here to see Production Growth vs. Market vs. Peers chart
The following charts covering the last twelve months ("LTM") demonstrate that Gale Force's G&A costs are far lower than those of its peers, despite a high level of activity and above average increases in operational size (measured by production) and success in increasing its asset base (measured by the increases in proved and probable oil and gas reserves):
Click here to see G&A expense vs. Peers chart
Board and Management Experience
We believe that the current Management of Gale Force has proven itself to be very adept at executing upon business combination transactions of the nature contemplated by the Company's current strategic review, having successfully concluded and created value through over a dozen buying or selling transactions of oil and gas properties in the prior three years.
The skill set of Gale Force's current four-member executive management team is derived from a combined 105 years of business experience, with nearly 50 years of combined experience in oil and gas operations. This not does include the Company's field, land and accounting personnel, all of whom have significant oil and gas experience, nor does it include the external advisors hired by the Company, including geologists, engineers and deal specialists.
Gale Force's six directors have diverse backgrounds which are extremely relevant to the proper and skillful oversight of an oil and gas company, and together are well-suited to help guide a strategic review process, especially given their intimate knowledge of the Company's assets. Michael McLellan, who is the Company's Co-Chairman and Chief Executive Officer, has been involved in the executive management of public oil and gas companies - through both good and bad economic times - for seven years out of his fifteen years total business, finance and management experience. Iroquois' nominee to the Board, Ruben Alba, brings an excellent technical perspective. Charles Marleau has served as an oil and gas equity analyst and currently manages investment funds that trade public oil and gas stocks. Robert Johnson co-owned a private oil and gas company in Texas for several years and currently co-owns an oil and gas well service rig. Guillaume Dumas, a lawyer, has more than twenty years of legal, financial and capital markets experience. Scott Paterson, Co-Chairman, has a nearly incomparable, diverse and complete background in public markets.
Contrary to your suggestion, there is no evidence to suggest that Mr. McLellan has not at all times acted in the best interests of all the Company's stakeholders. For those who work with him and know him, there is no doubt as to his dedication and devotion to Gale Force.
As part of its ongoing focus on good corporate governance, in January 2013, the Company commissioned an external advisor to prepare a report analysing the Company's executive compensation practices. While the Board is comfortable that its executive officers act at all times in the best long-term interests of Gale Force, the Board intends to review this report carefully and consider any modifications that may be suggested.
Great Gulfcan Transaction
We take great exception to your inaccurate depiction of the Company's transaction with Great GulfCan Energy Inc. (the "GGC Transaction"). The GGC Transaction was extremely beneficial to the shareholders of Gale Force as it was instrumental in providing the Company with a significant infusion of cash, and accounted for $3.2 million of the more than $7 million of net cash proceeds raised from the issuance of equity in early 2012. With these funds, Gale Force acquired the Texas Reef properties, increased its land position in that area by over 2,000 net acres and performed numerous development operations throughout its properties that have increased the value of its reserves or maintained the Company's production given the Company greater geological understanding of its properties. Overall, the increase in the fundamental value and financial health of the Company resulting from the GGC Transaction far exceeds any costs of dilution.
Further, contrary to your claim, the GGC Transaction was indeed priced in line with the Company's market value at the time the deal was struck. The $3.2 million in cash received by Gale Force in the transaction was obtained at an issue price of $0.19 per share, ignoring other non-cash assets acquired by the Company pursuant to the transaction. To obtain such a quantity of cash, the alternative to this transaction would have been a private placement, which would have entailed finder or investment banking fees and warrants equal to at least 10% of the proceeds raised. Therefore, the implied value of the cash proceeds received by Gale Force through the GGC Transaction was $0.21 per share, which is in line with the usual pricing metrics for public financings as illustrated in the following table and chart:
Click here to see Great Gulfcan Transaction Share Issuance Price chart
Moreover, the purpose of the staggered hold periods whereby half of the shares issued to the approximately 150 persons who received Gale Force shares under the GGC Transaction (the "GGC Shareholders") become freely trading on June 1, 2013, and the other half become freely trading on December 1, 2013, was to provide the Company with sufficient time to familiarize the GGC Shareholders with the Company and to prove its worthiness as an investment. The staggered hold periods also ensure an orderly transition of the new GGC Shareholders into the market for the Company's shares, thereby mitigating the chances of stock being dumped on the market in a manner which would negatively affect the Company's share price.
The preferred shares that were issued by Gale Force as part of the GGC Transaction are convertible into common shares of the Company on a one-for-one basis, pay no dividend and are non-voting. They therefore pose no risk of dilution, as the dilution has already occurred. This is why in each Management Discussion and Analysis published by the Company since the issuance of these preferred shares, a detailed breakdown of the quantity of common shares and preferred shares is provided, summarizing them as "Direct Ownership" of the Company.
Advance Notice By-Law
Following receipt of the Letter, in the discharge of its fiduciary duties, the Board of Directors held a meeting in order to determine an appropriate course of action in response to such communication. In addition to approving the content of this reply, the Board of Directors has taken measures to ensure that any future process by which nominees to the Board of Directors are presented and elected is conducted in a fair and transparent manner. To this end, the Board of Directors has adopted an advance notice by-law (the "Advance Notice By-Law").
The Advance Notice By-Law sets forth a procedure requiring advance notice to be provided to the Company by any shareholder who intends to nominate any person for election as director of the Company other than pursuant to (i) a requisition of a meeting made pursuant to the provisions of the Canada Business Corporations Act (the "CBCA"), or (ii) a shareholder proposal made pursuant to the provisions of the CBCA.
In the case of an annual meeting of shareholders, notice to the Company must be given not less than 30 days and not more than 65 days prior to the date of the annual meeting; provided, however, that in the event that the annual meeting is to be held on a date that is less than 60 days after the date on which the first public announcement of the date of the annual meeting was made, notice may be given not later than the close of business on the 10th day following such public announcement.
In the case of a special meeting of shareholders (which is not also an annual meeting), notice to the Company must be given not later than the close of business on the 10th day following the day on which the first public announcement of the date of the special meeting was made.
The Advance Notice By-Law is effective immediately and will be placed before shareholders for ratification at the annual meeting of shareholders of the Company (the "Meeting"). The Advance Notice By-Law shall be in effect until it is confirmed, confirmed as amended or rejected by shareholders at the Meeting and, if the Advance Notice By-Law is confirmed at the Meeting, it will continue in effect in the form in which it was so confirmed.
Execution and Track Record
Contrary to what you have stated in the Letter, we believe that the foregoing clearly demonstrates that the Company's track record for creating fundamental value has been excellent. Moreover, we believe that the Company's plan to pursue a new strategic direction is the correct course of action, and that the Company's current Management is ideally suited for the challenge.
That being said, as we have stated at the outset of this letter, the Company always welcomes any constructive input that its shareholders may wish to provide regarding the operations and strategic direction of Gale Force. All reasonable suggestions that are motivated by the preservation of the interests of all stakeholders, as opposed to the promotion of the limited agenda of any particular shareholder, will receive serious consideration, and we would look forward to a constructive dialogue with Iroquois that would assist in this regard.
On behalf of the Board of Directors of Gale Force Petroleum:
| (signed) Michael McLellan || || || || || || (signed) Guillaume Dumas |
| Michael McLellan || || || || || || Guillaume Dumas |
| Co-Chairman & CEO || || || || || || Director and Interim CFO |