Carnarvon hits jackpot
Recommendation
The share price of Carnarvon Petroleum rocketed more than 120% today as the company announced an oil discovery off the coast of Western Australia. Although full details aren’t yet available, the Phoenix South well looks to have struck a huge volume of oil and gas, up to 300m barrels.
That there is gas here has been known for decades but it was thought that reservoir quality was too poor to allow commercial production. Today’s results suggest that might not be the case. The operator, Apache, reported a good quality reservoir that will allow oil and gas to flow freely. If that is the case then today’s epic share price gain is no exaggeration: this could be a stunning turnaround for a business many people, including us, had given up on.
Carnarvon holds significant leases, about 20,000 square kilometres, in the area. Proof of an oil and gas system in place vastly increases the value of the company’s acreage. Today’s gain is fuelled by excitement but it is grounded in reality. This is no bubble. If pre-drill estimates are confirmed, the discovery could be worth about 40 cents per share to Carnarvon.
There are still, however, risks to navigate. Although early measures of oil quality and reservoir permeability are good, anything less than ideal could scuttle the venture. Carnarvon is covered for the first $70m of drilling costs but will have to pay its share following that. As exploration increases, so will calls on cash. If it all works, however, Carnarvon’s assets could be cheap even today and the company may be a prime takeover target.
A follow up structure, Roc, will now be drilled at no cost to Carnarvon. There is a chance that oil and gas present at Phoenix could have leaked into Roc. You can almost hear the drillers licking their lips at the prospect.
What to do now is a tough decision. Although today’s gains seem justified, we’re hesitant to follow excitement and pay for potential. That leaves shareholders with two options: sell or hold. If Carnarvon now makes up more than 4-5% of your portfolio, time to trim it lower. For other investors, these are interesting times we are willing to see through. There is enough potential to remain interested. With the share price up 200% since Carnarvon’s entitlement offer (Hold - $0.06), we're forgoing a recommendation guide until we have more news. For now, HOLD.