IOC: How Much Elk/Antelope Resource Is the Stock Pricing in? [IOC121713b_164445];
Analyst(s): Pavel Molchanov;
[Industry Classification: Energy/Exploration and Production];
InterOil Corp. - Outperform 2;
Companies Mentioned - IOC, TOTF.PA
* At the risk of stating the obvious, the central reason why IOC shares plummeted following the December 6 announcement of the resource selldown with Total is the uncertainty over how much value will ultimately accrue to InterOil from this deal. There is no way for the market to know how much resource at the Elk/Antelope field will be certified in 2015, and therefore how much cash Total will ultimately pay. In the meantime, it's worth posing the question: What amount of resource is the stock currently pricing in?
* For purposes of this analysis, we make several simplifying assumptions. First, we estimate that the value of the cash-generating businesses (refining and fuel distribution) is $304 million, applying the same DCF approach we've always used. Second, we assume that InterOil will pay $248 million in cash to buy out the resource stake of the remaining Indirect Participation Interest (IPI) investors, equating to a 15% annualized return since they made the investment in 2005. Third, we do not ascribe any value for the Triceratops discovery, nor any future exploration optionality. Fourth, to simplify the time value of money calculation, we apply a 10% per year discount factor, over two years, for all of the payments that Total will make beyond the $613 million upfront payment.
* The implied net present value of the resource (i.e., everything other than refining and distribution) is $2.6 billion. As the ultra-conservative scenario, let's suppose that the stock is pricing in only the monetized portion of the Elk-Antelope resource - i.e., InterOil needs to receive $2.6 billion in cash from Total, on a net present value basis and also net of the IPI buyout, to justify the current market cap. So, how much resource does Elk/Antelope need to contain for InterOil to receive this much? The math is simple, since the publicly filed Sale and Purchase Agreement specifies the valuation brackets. The answer is that Elk/Antelope needs to contain 8.6 Tcfe (gross, on a 2P basis) under this scenario, as shown on page 2 on the left. Now, let's do the same math, except ascribing some value for the Elk/Antelope resource that InterOil retains. This unmonetized gas is likely to have value only after the Total-operated LNG plant begins to produce - a project whose timetable and economics are hypothetical for the time being - so for purposes of this analysis, we value this gas at a notional $0.50/Mcfe - below the bottom bracket in the Total deal. On this basis (see page 2 on the right), 6.7 Tcfe at Elk/Antelope is priced in.
* Having estimated that the stock is implicitly pricing in between 6.7 and 8.6 Tcfe - both using conservative assumptions that ignore any value drivers beyond Elk/Antelope - we can ask whether this is too high, too low, or just right. Our own opinion of the resource base is, of course, irrelevant. Also irrelevant are the current opinions of InterOil and Total, since they will ultimately base their judgments on the future results of the certification process, involving independent third-party reserve engineers. That said, there are some historical markers that can provide context. InterOil's independent reserve engineers, GLJ Petroleum Consultants, had a year-end 2012 estimate of 9.9 Tcfe on a 2P basis (7.5 Tcfe on a 1P basis). Another independent firm, Gaffney Cline, working on behalf of the government, had an estimate (using older data) of 6.5 Tcfe on a 2P basis. It is entirely academic to argue which firm's estimate is more accurate - all such estimates for non-producing resources are more of an art than a science, although the tendency is for reserve engineers to err on the side of conservatism. What we can say is that the stock is pricing in a resource amount that is on par or below these aforementioned estimates.
Full Report - IOC: How Much Elk/Antelope Resource Is the Stock Pricing in?
