Despite raising a ton of money, Cobalt International Energy (NYSE: CIE) came public late last year to zero fanfare. This genuinely surprised me, given the "pure play" deepwater exploration theme on offer. While the firm has participated in a pair of discoveries led by Anadarko Petroleum (NYSE: APC), Cobalt has now run into problems during its first two operated drilling programs. The shares are languishing near their IPO levels.
It's hard to love Cobalt right now, but I think the shares may be significantly underpriced at the sub-$14 level. I can't say that definitively, because valuing Cobalt is kind of like wrestling a Jell-O monster. There's not a lot to grab onto. I'm not ready to tap out just yet, though.
My quick stab at a valuation in the days following Cobalt's IPO put the value of the company a bit north of $21 per share. JPMorgan Chase recently launched coverage of Cobalt with a target of $22.
That target would appear to validate my approach, but I'll tell you that it's a coincidence that Joe Allman's crew and I arrived at such a similar valuation. I made at least two big mistakes in my first pass formulation -- these errors just happen to cancel each other out and leave me with a similar end result. I still think Cobalt is worth more than $20 per share.
A couple of mea culpas
Here's the valuation table that I constructed back in December. I post this for reference purposes only, as these are no longer my ongoing assumptions.
|
Gulf of Mexico |
West Africa | |
|---|---|---|
|
Prospects |
47 gross / 23 net |
85 gross / 26.7 net |
|
Average target size |
100 million BOE |
50 million BOE |
|
Success rate |
30% |
40% |
|
Price per discovered barrel |
$5 |
$5 |
|
Prospect inventory value |
$3.45 billion |
$2.67 billion |
Prospect inventories from company filings. The rest are author's now-defunct estimates.
For starters, my unrisked estimates of potential resources were far too low. Independent engineers DeGolyer and MacNaughton (D&M) have since estimated 3.46 billion barrels of oil equivalent (bboe) across Cobalt's Gulf of Mexico prospects and 5.48 bboe over in West Africa. I botched West Africa particularly badly by overlooking the potential size of Cobalt's 45 (now 46) deepwater pre-salt targets. This untested play is thought to be an analogue to Brazil's deepwater, where firms like Petrobras (NYSE: PBR) and ExxonMobil (NYSE: XOM) have been uncorking some real gushers. Cobalt is targeting several billion barrels at Gold Dust in the Angolan deepwater pre-salt play -- the first such prospect to be tested.
Second, when "risking" potential reserves, you have to account for geologic, economic, and operational factors, which my 30%-40% discount rates do not adequately cover. In West Africa, my risk factor should have been more severe than in the Gulf of Mexico, rather than less, given the frontier nature of the pre-salt drilling.
Those are the two places I definitely went wrong, but they were more or less a wash. My unrisked estimates are now much higher, but are now much more heavily discounted.
A third potential issue with my quick approach is that I applied a simple value per risked barrel ($5) across the board. That assumes that a barrel is a barrel is a barrel, which is not too realistic. Cobalt's Shenandoah project, where partners Anadarko, ConocoPhillips (NYSE: COP), and Marathon Oil (NYSE: MRO) have already made the initial discovery, will almost certainly be in production before some yet-to-be made discovery with partner Total (NYSE: TOT) over in Gabon. That should translate to a higher per-barrel value.
Satisficing our way to speculative success
The shortcuts I've employed to ballpark Cobalt's fair value are obviously a lot less theoretically sound than doing detailed discounted cash flow projections on the firm's individual prospects. Still, now that I've tweaked some of the parameters, I consider my approach good enough for our purposes. We just have to demand a large margin of safety to compensate for the terrific amount of uncertainty here.
My best guess is that Cobalt's fair value lies between $19 and $23 per share. Under some scenarios, the Gulf of Mexico assets alone are worth more than the current market cap, giving you West Africa for free. Still, I would prefer to take a position at roughly half of my fair value estimate in order to give myself plenty of room to be wrong. At today's share price, I'm interested, but not yet compelled to commit funds to this offshore outfit.
