We tipped shares in Leyshon Resources (LRL) as a 'speculative buy' when their price was 15p in November, just before the company drilled the first of two test wells targeting unconventional gas reserves in China's second largest onshore shale basin. That was nicely timed. In the weeks before the release of drill results, the share price doubled and we promptly recommended that investors take profits. Then the share price was soon back to 15p after the release of inconclusive test results. But we think the market overreacted and, with the price bubbling up again, we suggest re-entering the play. Here's why.
- Significant gas discovery onshore China
- Accelerated $20m exploration programme
- The boss is buying the shares
- Has the cash for exploration
- Fracking may not free gas
- No other projects lined up
Technically, Leyshon's test drilling was a success. First, it proved that Leyshon's Zijinshan licence contains a working hydrocarbon system. Second, the test wells were close to the boundary with Sino Gas & Energy's (ASX: SEH) Sanjiaobei gas discovery, and they show that this major reservoir continues into Leyshon's acreage. What's more, the wells cut through multiple gas columns with attractive pay zones. It was disappointing that gas would not to flow at commercial rates without stimulation - such as fracking - but that's fairly normal for a tight gas play such as China's Ordos basin.
Leyshon is exploring again - this time with an accelerated $20m (£13.3m) fracking and drilling programme for 2013. The scale of the exploration and appraisal programme is a major show of confidence in the assets. And Leyshon's managing director, Paul Atherley, is putting his own money on the line. In February, he bought £268,000-worth of Leyshon's shares at an average price of 14.9p. The purchase takes his stake in Leyshon to 12.9 per cent, aligning his interests very closely with outside shareholders.
Leyshon has recently brought all the equipment required for its 2013 programme on site and plans to frack the two wells already drilled immediately. Then it will drill and frack up to six new wells, depending on results.
LEYSHON RESOURCES (LRL) | ||||
|---|---|---|---|---|
| ORD PRICE: | 19.75p | MARKET VALUE: | £49.3m | |
| TOUCH: | 19.25-19.75p | 12-MONTH HIGH: | 28p | LOW: 10.75p |
| DIVIDEND YIELD: | nil | PE RATIO: | na | |
| NET ASSET VALUE: | 13.8p | NET CASH: | see text | |
| Year to 30 June | Turnover (A$m) | Pre-tax profit (A$m) | Earnings per share (A¢) | Dividend per share (p) |
|---|---|---|---|---|
| 2008 | 1.05 | -10.4 | -4.8 | nil |
| 2009 | 0.52 | -1.93 | -0.9 | nil |
| 2010 | 1.47 | -1.79 | -0.9 | nil |
| 2011 | 3.01 | -0.53 | -0.3 | nil |
| 2012 | 3.06 | -3.14 | -1.4 | nil |
| % change | +2 | – | – | – |
Normal market size: 18,000 Market makers: 9 Beta: 1.4 *Excludes liabilities and interest due for drilling two exploration wells £1=A$1.46 | ||||
Should they turn up positive, shareholders and Mr Atherley stand to be rewarded handsomely for taking on such development risk. Independent consultant RISC estimates the Zijinshan gas project could be worth over £700m compared with the market value for Leyshon's equity of £49m. However, a more realistic comparator might be Leyshon's neighbour, Sino Gas, whose equity has a market value of £100m even though it holds a smaller interest in its licences.
Of course, there's the significant risk that fracking doesn't unlock much gas on Leyshon's project. This would be a big problem as Zijinshan is the company's only real asset. That said, we think the potential rewards significantly outweigh the downside risk, which may be limited anyway by the fact that Leyshon has 12p-per-share worth of cash, though the exploration programme will have to be funded from that.
