You'll notice that all five of these shares are in the resources sector. But they're no fly-by-night operations; all have demonstrable commercial potential and many have substantial cash resources too.
Nautilus is one of the most obviously undervalued shares on Aim. It is the first company to commercially explore the oceans for high-grade "seafloor massive sulphide" deposits, a major source of minerals, from which it plans to mine copper, gold, zinc and silver. Seafloor massive sulphide deposits form where superheated water carrying metals from deep in the earth’s crust mixes with cold seawater at the bottom of the ocean, depositing metal-rich minerals directly on the ocean floor. While this might sound futuristic, Nautical is simply following the lead of, and using techniques used by, the petroleum industry to tap vast offshore mineral resources, using a methodology that offers the potential for low-cost mining and therefore high margins.
Mine planning is under way for the world’s first seafloor copper/gold mine at Nautilus's Solwara 1 project in the Bismarck Sea, Papua New Guinea, which lies in approximately 1,600m of water. In total, the company holds more than 528,000 square kilometres of licences and exploration applications in the waters off Papua New Guinea, Fiji, Tonga, the Solomon Islands and New Zealand.
In particular, Nautilus holds highly prospective licence areas in Papua New Guinea and Tonga, which contain substantial resources estimated to internationally recognised (NI43-101) standards, and a growing pipeline of high-grade deposits.
What really testifies to the commercial reality of Nautilus's project is the backing of three powerful shareholders who have industrial interests in its success and aren't known for throwing money at pie-in-the-sky proposals.
The biggest is Russian oligarch Alisher Usmanov, who owns a 22.4 per cent holding via Gazmetall, a subsidiary of the Metalloinvest Group, one of Russia's largest iron ore producers. Teck (formerly Teck Cominco), the diversified Canadian mining and metals group, owns 6.8 per cent and has committed to pay $12m (£8m) as an option to form joint ventures with Nautilus. Another mining major, Anglo American, increased its stake from 5.7 per cent to 11.1 per cent in November 2008 after exercising, in full, the anti-dilution right granted in its original 2006 subscription agreement. Anglo brings sub-sea diamond mining experience through its investment in De Beers.
All three major shareholders have signed five-year non-competition agreements and have agreed that if a recommended takeover bid is made for Nautilus, they will either accept the bid or make a higher counter offer.
Why it's undervalued:
The case for Nautilus being undervalued is simple: as at 31 March 2009 it had cash of $215m and was debt-free. Technical challenges remain, even though Nautilus is borrowing proven techniques from the oil and gas industry, and environmental permits still need to be obtained, but the upside from such a discount to cash should be substantial.
Polo has just completed a joint venture with Peabody Energy that will see Peabody develop Polo's highly prospective portfolio of Mongolian coal assets. That leaves Polo with a substantial pot of cash and management resources to pursue other opportunities.
The company wasted little time in refocusing its attention on uranium, announcing in late March that, together with chairman Stephen Dattels and deputy chairman Neil Herbert, it had acquired a 5.7 per cent interest in Extract Resources. Extract is developing the Rossing South uranium project in Namibia, which is potentially the world's largest uranium deposit.
Uranium is a sector that Polo's management knows well. Messrs Dattels and Herbert were previously involved with UraMin, a Canadian uranium miner that was sold to French energy group Areva for $2.5bn in 2007.
Polo also holds investments in three Aim-traded miners, holding 26.3 per cent of Caledon Resources, 29.8 per cent of GCM Resources and 11.13 per cent of Berkeley Resources. Caledon mines coking coal from its Cook mine in Queensland, Australia, and is developing a potentially larger deposit at nearby Minyango. Joint production from the two assets could reach a sizeable 4m tonnes a year by 2015, although recent takeover talks might crystallise the value sooner.
GCM is developing the Phulbari coal project in Bangladesh, which has 572m tonnes of resources and the potential to install a coal-fired power generator at the mine site. This project has become embroiled in permitting issues but could deliver substantial value.
Why it's undervalued:
Polo had $70.7m in cash at 31 December 2008 (before making investments in uranium miners Extract Resources and Berkeley Resources) and its investments in Caledon and GCM have market valuations of £17m and £9.9m respectively. That's £74m in liquid assets – already more than the market capitalisation.
The joint venture with Peabody Energy will see Peabody invest up to $25.8m to receive a 50 per cent interest in Polo's Mongolian coal assets, on top of which Peabody will pay Polo a royalty based on coal sales and a proportion of the proceeds of any asset disposals. Just taking the initial investment, that's another $25.8m of demonstrable value on top of Polo's liquid assets.
Serica Energy is an oil and gas company that is nearing first production from its Kambuna development, offshore North Sumatra. First gas production and cash flow are expected mid-year, which will mark a significant milestone for the company.
A recent reserves report by consultant RPS Energy demonstrates the quality of the Kambuna asset, estimating that gross proved, plus probable, reserves total 133bn cubic feet of gas and 11.6m barrels of condensate, a total of 39.3m barrels of oil equivalent (mboe), with a further 23.2mboe of less confidently assessed ‘possible' reserves. Serica's total net interest proved, plus probable, reserves were 28.5mboe at the end of 2008, up 48 per cent on 2007 despite a partial sale of Kambuna.
Away from Kambuna, Serica is commencing drilling on sizeable exploration prospects in Ireland, Vietnam and the UK. Success in any of these could add further material reserves. The company has submitted a field development programme for the Columbus discovery in the central North Sea, which is estimated to hold proved, plus probable, reserves of 17.7mboe, and Columbus could benefit from tax breaks announced in the Budget aimed at incentivising North Sea exploration.
Why it's undervalued:
The sale last July of a 15 per cent interest in the Kambuna project to partner Salamander Energy raised $52.7m, implying a value for Serica's remaining 50 per cent stake of $175m. This alone more than underpins the market capitalisation, without even considering several other deals that support values of interests in other licences.
Northern Petroleum is a major player in its main markets – Holland and Italy. It is flow testing six Dutch gas fields and has doubled volumes by reworking and artificially stimulating wells. Northern hopes to have its first well on commercial production by late 2009 and expects to produce around 2,500 barrels of oil equivalent per day once all six are onstream. Furthermore, high flow rates suggest that certain depleting fields may offer gas storage potential, which would lower production costs and offer additional revenues.
Northern has successfully been using innovative 'Casing While Drilling' technology (which allows faster, safer operations compared with conventional drilling) at the Nieuwendijk exploration well in Holland. It is targeting 50m barrels of oil and set a new European record by drilling the first 780m section of the well using Casing While Drilling technology.
On completion of Nieuwendijk around mid-year, Northern will move the drilling rig to the Tiendeveen prospect, which is considered to have low exploration risk but big upside potential with an estimated 67bn cubic feet of gas and condensates in place.
Northern holds the largest licensed exploration acreage in Italy, including seven licences in the highly promising Po Valley. Although the Savio well was unsuccessful, two further Po Valley wells to be drilled also offer substantial upside potential. The company has an active 2009 programme, which should see it drill five wells in all and complete seismic surveys off the Italian coast.
Northern recently announced a recommended share offer for ATI Oil, a partner in Italy. Funding difficulties have constrained ATI's ability to pay its share of development costs, which has hindered Northern's progress and its ability to attract other partners. Northern will bear higher Italian drilling costs as a result of the deal, but stockbroker Blue Oar Securities describes the deal as “increasing its exposure to high impact Italian acreage with minimal dilution to shareholders”. The acquisition is subject to a scheme of arrangement and a shareholders' meeting scheduled for 28 May 2009.
Why it's undervalued
Northern's value is evidenced by management's deal-doing record. It received some €40m (£35.7m) from Dutch company Dyas from the 2007 sale of a 25 per cent interest in six undeveloped discoveries in Holland along with three exploration prospects. This values Northern's 45 per cent average remaining interest in these fields at around €72m.
Late last year, Northern farmed out interests in six licences offshore Sicily to Shell. Northern will keep between 30 and 45 per cent interests while Shell carries out work estimated to cost in excess of €100m. Much of Shell's financial commitment is contingent and its farm-in percentage varies, but in the worst case scenario – which assumes that Northern keeps only 30 per cent of all six licences – the implied value of Northern's remaining interests is €42.9m. These six Dutch and six Sicilian licences alone – Northern has some 50 in total – more than underpin the share price, added to which the company has a healthy cash balance.
Aurelian is focused on eastern Europe, an established and prolific hydrocarbon-producing province. Decades of underinvestment have left eastern European countries reliant on Russian gas for power and heating. For example, Poland – where Aurelian has its foremost project – imports 70 per cent of its gas, leaving the government there understandably keen to bolster domestic production, particularly after last winter's dispute between Russia and Ukraine left much of central and eastern Europe severely undersupplied.
Attractively for Aurelian, gas prices are expected to rise across eastern Europe as Russia reduces subsidies to its former satellites (it needs considerable investment in domestic facilities), and EU member states such as Poland are encouraged to converge their subsidised domestic gas prices towards market rates. Like other eastern European countries, Poland offers attractive fiscal and royalty terms, and its EU membership also establishes clear legal title and ready access to markets.
Aurelian's key Polish asset is the Siekierki project near Poznan, Poland's fifth-largest city. Consultants estimate this holds upwards of 163bn cubic feet of gas, although dense rocks have so far prevented commercial exploitation. Applying state-of-the-art techniques, Aurelian plans to drill a series of horizontal wells and fracture the reservoir to stimulate sustainable commercial gas flows. Following a deal with Canamens, Aurelian is planning the installation of gas production and pipeline facilities.
If all goes as planned, Aurelian will start selling Poznan gas in 2011 from two wells, with production growing as five wells are onstream by 2013 and double that by 2014. Away from Poland, Aurelian has attractive prospects elsewhere in eastern Europe, notably in Romania: the company is developing the Lilieci discovery and plans to drill the Voitinel prospect in late 2009, which has the potential to be a sizeable field.
Why it's undervalued:
Last November Aurelian announced the farm-out of a 40 per cent interest in the Siekierki project in Poland to Canamens. Under the agreement, Canamens will meet 80 per cent of Aurelian's then 90 per cent share of work programme costs up to a maximum of €40m. Aurelian retains management responsibility and a 50 per cent interest, which secures significant upside for Aurelian but greatly reduces its financial commitment. This values Aurelian's remaining interest at €50m – more than the company's market capitalisation. Aurelian recently announced that it requires further funding to reach first Poznan production, but the quality of the portfolio should let it do a financing deal without giving away too much value.
