From Macbanks Inner Circle equities rsearchNexus Energy...

From Macbanks Inner Circle equities rsearch

Nexus Energy
Recommendation upgraded

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Volatility Index: very high
Recommendation: Outperform


Stock price $0.36

Event

We upgrade Nexus (NXS) to Outperform and raise our target price by 29% to 45cents per share". We transfer coverage of the stock to Adrian Wood.

Impact

Lots of value but lots of risk: Our underlying NXS net asset value is 68cents per share", to which we have set our price target at a 33% discount to reflect concerns over the company's restricted financial capacity to unlock the value of its assets. While conservative, this price target leaves considerable, albeit risky, upside to the current share price if sufficient cash can be raised via asset sales to fund the Crux development and possibly even drill some exploration wells.

Asset sales required to fill the funding gap: Under the assumption of a timely Crux development, we see a $675m funding gap for NXS (almost equivalent to almost 3x the company's current market cap), which without action would see the company run out of cash in July 2011. Consequently, NXS is essentially looking to either sell or farm out stakes in every asset in the portfolio.

Need to back management to cement deals: An investment decision in NXS is not merely a question of valuation but also one of management's ability to sell assets at reasonable prices in a short period. If suitable buyers willing to pay suitable prices could be found, we would expect NXS' shares to perform well over the next 12 months. Investors would be reminded of the value embedded in the asset base and be able to ascribe a greater likelihood of a Crux development in the light of the cash raised.

What if a deal can't be done? If a buyer for Crux cannot be found, we think NXS is likely to hand the asset over to Shell. If so, this would reduce our valuation to 53cents per share", although NXS would then no longer have immediate funding concerns. But even under this scenario, our core value for NXS would remain at 27cents per share", which would likely provide a floor to the share price.

Earnings and target price revision

We downgrade earnings in Financial Year 2010 by $3.6m to a $6.9m loss to reflect a slower production ramp-up of Longtom and increased borrowing costs associated with the senior note. We also raise our target price by 29% to 45cents per share".

Price catalyst

12-month price target: $0.45.

Catalyst: Start-up of Longtom in late October 2009 and asset sales early next year would provide short-term news flow.

Action and recommendation

The upside case at NXS is dependent on the successful and timely completion of the current asset sales process, while the company's current valuation leaves limited downside, even if a buyer could not be secured. Consequently, in the light of the oil price recovery and the imminent start-up of the Longtom field and with cash balances bolstered by the recent rights issue, we have reason to believe NXS has weathered the worst of the storm, although it is by no means out of the woods