Conviction Buy recommendation on Rockhopper Exploration at 157p

It’s a bit of an understatement to say that it’s been a rough few months for shareholders of North Falkland basin explorer, Rockhopper Exploration. Since the announcement of a farm-out deal with Premier Oil on 12^th July to bring the Sea Lion discovery to production, the shares have fallen by almost 50%.

With the stock now sitting at 157p, compared with a 52 week high of 393p early in the year. Weakness has been waved of as disappointment of a weaker than expected revised CPR (Competent Persons Report) and the relatively underwhelming Premier deal for demanding shareholders. SBM thinks the sell off is now overdone and accordingly makes them a Conviction Buy at this price. 

The CPR was published in April 2012 and indicated that the company’s contingent resources were as follows with a range of 225 – 515 mm barrels:

Sealion, Casper, Casper South, Beverley= 225.6 mm barrels (1c), 355.6 mm barrels (2c), 515.9 mm barrels (3c)

The farm-out deal with Premier was announced in July to allow the financing of the development of the Sea Lion and ancillary discoveries and resulted in Premier acquiring 60% of all of Rockhopper’s interests in the North Falkland Basin for $231mm in cash, $722mm of development carry and $48mm exploration carry. Post the farm out Rockhopper will have $270 million of cash, equating to £0.59 per share (284.2 million shares in issue).

The PMO deal is expected to be completed by the end of 2012. “First oil” from the field is expected in 2017 however. 

The shares took a hit last week as rumours circulated of a director share sale (so far unfounded) and those with a shorter term outlook have been offloading given the risk that the Premier deal may still disentangle (not being due for completion until end of the year) and of course the long lead time for first oil. It is easy to forget that the shares briefly traded above £5 after the initial Sea Lion discovery. The other risk is Falkland Oil and Gas’s ongoing Scotia drill which may dent sentiment further in the Falkland’s oil dream if it turns out to be another duster after the relative disappointment of the Loligo gas find as well as Borders and Southern’s Stebbing negative well result.

Fundamentals support our stance

Its been a question of trying to find the bottom in this share, but from a pure valuation point of view things are starting to look interesting at anything around this price. At the current £445 million market cap ($717 million), then adjusting for the net cash of $270m, the value of its 2C resources is now just $3.33 a barrel for its 40% interest. This is now no longer a high risk exploration stock with Sea Lion in the bag and in fact is a deep value oil play.

Technical snippet

The chart below illustrates just what a drubbing the stock has taken this year and how oversold the shares currently are. There looks to be a 5 wave completion move (per Elliot Wave theory) to us that would indicate the corrective move is now all but over. The key level to watch for a break of is 180p which would indicate a move back over 200p being likely.