That’s because I have good reason to expect a strong recovery in the share price in the first quarter of next year to narrow the huge 41 per cent discount to mid-December net asset value of 32.3p a share. Chairman Michael Tang, who acquired 11.77 per cent of Polo's share capital at 40p a share in May through his investment vehicle, Mettiz Capital, and is the company's largest single shareholder with a 14.55 per cent stake, has informed me that he expects Polo to make some important announcements in the first couple of months of next year. They are also likely to highlight the chronic undervaluation of the company’s two main assets: a 44.9 per cent equity investment in Signet Petroleum, the independent African oil exploration company with interests in four prospective assets in Benin, Burundi, Namibia and Tanzania; and Polo’s largest investment, the Nimini Komahun Gold Project in Sierra Leone, in which the company holds a 90 per cent stake. These two holdings account for around two thirds of Polo’s net assets.
To put the extent of the undervaluation into some perspective, the company is currently sitting on short-term investments, cash and receivables of 4.2p a share, or 22 per cent of its current share price of 19p. Strip out those liquid resources from the company's book value of 32.3p a share, and assets worth 28p a share are in effect being valued at almost half their carrying value in Polo's accounts. That undervaluation will look even more anomalous if Polo releases the long awaited farm-out/asset disposal of its investment in Signet Petroleum, in the first two months of next year. Polo has a 44.9 per cent holding in Signet that’s in the books for around 10p a share, or half the current share price. I understand that First Energy Capital Corporation, which has been appointed by Signet to assess strategic alternatives for Mnazi Bay, including potential farm-out opportunities, is currently in final discussions with potential partners and is exploring all options, according to Mr Tang.
Realising value in Africa
To recap, Signet has four prospective assets in Benin, Burundi, Namibia and Tanzania. Signet's main investment is an 80 per cent interest in Hydrotanz, a company that has a production-sharing agreement with the United Republic of Tanzania and the Tanzania Petroleum Development Corporation on the offshore North Mnazi Bay Block. This prospect is adjacent to BG and Ophir Energy's offshore Chaza 1 gas discovery well, which is targeting an eye-catching 12 trillion cubic feet of gas.
Admittedly, the farm-out deal has taken far longer than expected to close, which explains the ongoing weakness in Polo’s share price as investors lose patience. But with an announcement due to be made by the end of February then it pays to be patient and await the news. Furthermore, it would be irrational for Mr Tang to have paid such a premium to Polo’s share price back in May unless he thought substantial value could be realised from the company’s holding in Signet since the investment accounts for almost a third of Polo’s book value.
Another third of Polo’s net asset value is tied up in the company’s largest investment, the Nimini Komahun Gold Project in Sierra Leone. The last resource estimate showed an indicated gold resource at the site of 550,000 ounces and another 340,000 inferred ounces of gold, bringing the total potential resource to 890,000 ounces. On that basis, Polo's investment values the project at around $60 an ounce. That's hardly a punchy valuation even in these tough times for small cap resource companies. The next update from Nimini will be made by the end of March and will be the long awaited release of the Preliminary Economic Assessment (PEA). Discussions with the government of Sierra Leone regarding the terms applicable to the project, the first large-scale underground gold mine in Sierra Leone, are still ongoing. More importantly, Mr Tang expects a positive outcome here too.
Unwarranted large discount to sum-of-the-parts valuations
As incredibly frustrated as I am with the lack of progress in Polo's share price this year, no matter which way I look at it the shares are still substantially undervalued. That’s because the holdings in Signet and Nimini are in the books for more than Polo’s market value of £53m. That leaves cash, marketable investments and interests in four other companies, worth in total around a third of net asset value, in the price for free.
True, a rerating will only happen when Signet finally closes a farm-out deal, or when there is concrete news regards the PEA on Nimini. But at the current bargain basement price the risk is to the upside if you are prepared to ride out the short-term share price weakness and await these catalysts to spark a re-rating.
And after such a derating, the share price is now at a level where a base could be found. From a charting perspective, the 14-day relative-strength index (RSI) is in massively oversold territory and is at levels that all the other major rallies have started from in the past year. The price has fallen back to around 18.5p, a level that has provided substantial support every time it has been tested in the past eight months. In other words, the technical set-up favours a recovery in the share price from oversold levels and from support.
True, some investors may have been disappointed by the 10 per cent fall in net asset value per share from 36p to 32.3p between end of June to mid-December. But this mainly reflects the 6.5 per cent appreciation of sterling against the US Dollar in the period. In any case, the 3.7p a share shortfall should be more than made up for by a successful farm-out deal by Signet.
In the circumstances, I would use the bargain basement valuation as a buying opportunity. On a bid-offer spread of 18.5p to 19p, Polo's shares continue to rate a buy, albeit the shares can be volatile and carry above average risk. I retain my fair value estimate of 35p.
Please note that I have written three columns today, all of which are on my home page. Also, I will update the investment case of WH Ireland (WHI) after the company issues its pre-close trading update on Thursday, 19 December.
Finally, due to unprecedented demand, my new book, Stock Picking for Profit, has sold out and is being reprinted for delivery the week beginning Monday, 6 January 2014. As a special promotion to IC readers, the first 100 pre-orders for the book placed online with YPD Books and quoting offer code ICOFFER will receive complimentary postage and packaging. The book can be purchased online at www.ypdbooks.com, or by telephoning YPDBooks on 01904 431 213. The book is only being sold through YPDBooks and no other source. It is priced at £14.99, plus £2.75 postage and packaging. Telephone orders will continue to incur the £2.75 charge.
MORE FROM SIMON THOMPSON ONLINE...
Since the start of December I have published the following articles on companies or trading strategies:
■ PV Crystalox Solar ('Cash rich and undervalued', 2 Dec 2013)
■ Pilat Media Global ('Bumper upgrades for software maestro', 2 Dec 2013)
■ Housing market ('Allaying fears of housing myths', 3 Dec 2013)
■ Dragon Ukrainian Properties ('Ukrainian nightmare tames the dragon', 4 Dec 2013)
■ Conygar ('A smart regional property play', 4 Dec 2013)
■ Sutton Harbour ('Small cap value plays', 5 Dec 2013)
■ Crystal Amber ('Small cap value plays', 5 Dec 2013)
■ API ('Small cap value plays', 5 Dec 2013)
■ Greenko ('Fair wind', 6 Dec 2013)
■ Bezant Resources ('High risk, high reward resource play', 9 Dec 2013)
■ Thorntons ('A rating too sweet?', 10 Dec 2013)
■ KBC Advanced Technologies ('Fuelled for more growth', 11 December 2013)
■ Terrace Hill (‘Property play fully valued’, 13 December 2013)
■ Moss Bros (‘Dressed for success, 16 December 2013)
■ Inland, Terrace Hill, Daejan, Raven Russia, Mountview, Town Centre Securities, Bellway, Jarvis Securities, Air Partner, Thalassa, Pilat Media Global, NetPlay TV, 32Red ('Seeking safety and income at a reasonable price', 17 December 2013)
