Africa Oil is a Canadian energy company with assets in Kenya, Ethiopia, Mali and Somalia through its 45% stake in Horn Petroleum Corporation. Africa Oil's East African holdings are in excess of 300,000 square kilometers. The company doesn't have any production today and it is in a multi-well drilling campaign in Kenya and Ethiopia during the last months.
Africa Oil Corp trades with a price to book value of 9.3. The company has zero production so it has zero revenue and thus negative funds from operations. The company holds $55 million cash but the drilling cost in Kenya is about $15-20 million per well. The company also announced an increase at its reserves in Aug 2012. However they are Prospective reserves and they aren't Proven and Probable Reserves (2P). Prospective reserves means that there is no certainty that any portion of the Prospective Resources will be discovered. If discovered, there isn't certainty that the discovery will be commercially viable to produce any portion of the resources.
Some holders will debate that Africa Oil has a big acreage and new discoveries have been announced on all sides of Africa Oil's land position including the major Albert Graben oil discovery in neighboring Uganda. I'll comment that it's widely known in the oil & gas universe that you and I could be neighbors and you are sitting on 1 billion barrels recoverable and I have goat pasture. So this acreage statement lacks punch.
According to regulatory filings, the insiders have been selling since July 2012. I accept that the insiders sell for many reasons. The insiders also buy only for one reason and I havn't seen any of them buy since the share price has jumped to the current levels.
The geopolitical risks of Africa are well known. The social unrest, the political turmoil, the civil wars, the pirates attack, the lack of infrastructure are usual. "No matter where you are in the world, where there's no infrastructure and no history of the oil business, it will take at least half a dozen years to go from exploration phase to development concepts," Tim O'Hanlon, Tullow's vice president for Africa, told Reuters.
In Uganda, the pipeline to get the oil to the coast for export will not be in place before 2018 at the earliest. In Kenya, the Government has already started to complain about its current 10% stake and they want a 25% share although the country has not found any commercially viable oil source yet. Tullow indicated it would be at least a year before it knows whether its March discovery with Africa Oil (Ngamia-1 well) can be extracted and exported.
Kodiak Oil and Gas has the same market cap like Africa Oil. Are these companies the same? Kodiak Oil is one of the most loved oil plays as it sits on the North Dakota Bakken formation and it operates in a stable jurisdiction. All this adds a significant premium on Kodiak. In addition, Kodiak is a producer and it is not an exploratory venture. Keeping in mind these additive factors, we see that Kodiak trades with a price to book value of 2.4 and 10x the annualized Funds from operations. Kodiak also trades for more than $200,000/boepds.
Let's consider now some other companies like WesternZagros (TSXV: WZR) and Mart Resources (TSXV: MMT) with recent significant oil discoveries in risky and unstable areas like Africa Oil's region. WesternZagros operates in Kurdistan and trades with a price to book value of 2. Mart operates in Nigeria and trades with price to book value of 4 and 4x the annualized Funds from operations but it is a producer and a dividend payer.
Are these multiples anywhere close to the whopping 8x book value of Africa Oil with the unknown production future?
I believe Africa Oil Corporation's current market cap defies any logic and I can't find any rationale behind it. I think long investors had better stay away from Africa Oil as there are significant downside risks. Speculative investors should consider a short position capitalizing on the asymmetric risk/reward proposition at these unsustainable levels. A sharp revaluation to the downside may be coming.