WARNING: VERY LONG POST, A BIT ABSTRACT - SO FEEL FREE TO...

WARNING: VERY LONG POST, A BIT ABSTRACT - SO FEEL FREE TO IGNORE.

Imagine a company who had $3 billion in cash, and no debts. They are not producing any income, and had no other assets. What sort of range of values do you think the market would place on such a company?

Perhaps $2.7 billion, rather than the full $3 billion? Just a slight discount to its asset backing..? That would be about right.

Imagine instead a company who, rather than assets of $3 billion in CASH, had in situ 'ASSETS' worth $3 billion dollars. But the assets were gas, not cash. Would the valuation be much different?

As it turns out, yes, huge so. BUT WHY? Why does the market value cash assets fairly accurately, but can misvalue other assets like mineral and energy resources so poorly?

Some ideas:

THE 'AUTHORITY' OF CASH

We KNOW the value of cash. We use it every day. In fact, it denominates all our purchases. So we think of it having a fixed value. (But does it really? As an investor, would you prefer $1 million when the market was at 3200, or 6,800..?)

But assets are seen as less reliable. We value them, USING CASH as the measurement. So we trust the value of cash more than we trust our ability to value assets. Cash is cash - with a value accepted by everyone. Assets are just de facto cash.

So as a result, we place less value on companies with assets than we do with those with cash (or those that are producing cash).

When a resource company crosses the threshold from being an 'explorer/developer' to a 'producer', it gets rerated upwards. WHY? Because all of a sudden it is now producing something tangible - CASH. Now, if you think about it, all they are doing is LIQUIDATING their in situ assets - swapping them for cash, such that they now have more cash, and less in situ assets - there is no 'gain' as such. But, we trust and know cash. And cash pays the bills, and buys stuff. Assets are just 'cash-in-waiting'.

In fact, when we sell an asset, we call it 'realising' the profit. Tax aside, think about the language. Previously, the asset existed in the netherworld, having an unfixed and uncertain value. But once you sell it, and turn it into cash, you have 'realised' how much it is worth, often at a higher price. But didn't it ALWAYS have this value? Only now, when it is turned into cash, it is now measurably worth that. But perhaps, it always was worth that... it just hadn't been sold. And We hadn't 'realised'!

THE MARKET IS RIGHT, SO WE MUST BE WRONG - RIGHT?

If the market, in its wisdom, undervalues a company and its assets, then the market must be right? After all, the market is full of clever people, institutions with infinite information and knowledge, and therefore are going to be able to value assets far better than us.. right?

So, if the market says assets are worth x, and we think they are worth y, it is really hard to convince ourselves that we are right and the market is wrong. It is the peer group pressure of the entire market, vs YOU.

But what if the market IS wrong. What if the market suffers from the same prejudices as the individual; the same bias towards cash and away from those darn 'intangible' and difficult to value assets. Perhaps market prices for companies with assets are wrong. often, by and order of magnitude. It is just just a question of by how much the market is wrong.

And this becomes a self-fulfilling prophesy. Because participants believe the market price is right, so the market pricing remains wrong!

VALUING ASSETS IS HARD; CASH HAS THE 'VALUE' WRITTEN ON IT

Any fool, even an accountant, knows how much cash is worth. They make it idiot-proof by writing its value in numbers boldly on the front of notes and coins. But appraising assets is hard. It is multi-dimensional. It must take into account a multitude of factors, that are often hard to quantify. Estimates of supply and demand are just that - estimates. We have imperfect information about the future. Sometimes the assets are ephemoral, strategic, perhaps even unknown.

(ie what is the value of HGO's top-up clause? Zero? $350m, $80m. It is almost impossible to say.)

So, because assets are hard, or even impossible to value, we discount their value - because we want to err on the side of UNDERestimating their value, rather than OVER estimating their value. People fear paying too much, but worry less about selling for too little. Again, cash is the known - assets are uncertain. They are 'quantum cash'

TRADING/INVESTING IN THE ASSET/CASH VALUE GAP

Lots of investors and companies make the most money in resource companies in the period leading up to production or sale. As a resource gets developed, and as the time when production or sale approaches, the market is prepared to give it a higher and higher value. The doubt about the asset's value ebbs away as the magical cash gets closer. When companies get taken over, what happens? Overnight, companies can increase huge sums, when all of a sudden the value is going to be realised by someone buying the asset for cash. Did the VALUE all of sudden go up, just because a buyer offered to buy it? Or was the value there all the time, but not reflected in the price? - and the transaction just 'realised' or crystalised that value that was always there.

ESG

SO how does this relate to ESG. ESG has an amount of 2P gas reserves (that is, gas that is 'reasonably likely' to both find a market and be produced economically), which based on past TRANSACTIONS, is worth 4 times its current price. 4 TIMES!

This is not a minor mispricing by the market. These are assets that are mispriced by and order of magnitude. And all because they have not yet been 'sold'.

This is a huge value gap. A value gap that exists due to the inability of markets to price assets properly, which only gets fully realised when they are swapped for cash. And perhaps that it because the market for ESG THE SHARE is vastly different to ESG THE COMPANY. The share is traded between retail and institutional players, with short timeframes and poor knowledge. ESG, THE COMPANY, is bought by large mutlinational companies, with loooong timeframes, where they ARE the market for the gas, and they have far different levels of information.

It is not hard to see why companies like ESG, or QGC, or SGL, PES etc., TRADE at one price for the assets, and then are SOLD at a vastly different other price. The markets are completely different.


ESG and/or its assets may or may not be realised for cash. But if they are, use history as a guide. And you can profit on the phenomenon which is the market's inability to price assets, UNTIL THEY ARE SOLD.

And the bigger the value gap between the underpriced ASSET, and its likely SALE PRICE, the more you will make.

Y