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Continued from here.

As I’ve mentioned, we’ve another 20 odd non-ISEQ listed Irish stocks to work through still. I should first note I’ve eliminated Alkermes (ALKS:US) and Amarin (AMRN:US) (and Jazz Pharmaceuticals (JAZZ:US) never even made the cut*). Clearly, an Ireland HQ is particularly attractive for pharma companies! Any reader care to enlighten us further..? I wasn’t fooled by this shell game, but they had some Irish directors/management/locations, so I planned to include them in TGISVP. Now I look again, their Irish ‘representation‘ is pretty small, and sure to get even smaller… So they’re out – unless someone wants to email and persuade me otherwise!?

I’ve also revised valuations for Worldspreads (WSPR:LN) and Siteserv (SSV:LN) – in fact, they kind of swap places in the rankings! I was briefly commenting here on both companies, and their respective scandals, and it got a little out of control..! I had to upgrade to a separate article. Note I’m keeping a file of all original share prices and valuations, which I’ll use for any performance/evaluation exercises at a later date. Right, let’s see if we find anything interesting in this batch:

The Great Irish Share Valuation Project IX     (xlsx file)

The Great Irish Share Valuation Project IX     (xls file)

Andor Technology (AND:LN):   Andor’s a world leader in scientific imaging, spectroscopy solutions and microscopy systems – a v attractive niche. Adj. Operating Margin‘s currently at 16.7%, and likely to expand further with increasing economies of scale and enhanced R&D payback. Earnings have been expanding at a rapid 20%+ annual clip in the past few years. The company also enjoys a strong balance sheet, with GBP 14.3 mio of cash on hand and minimal borrowings.

This cash is increasingly becoming a dead weight as acquisitions (primarily to purchase technology/intellectual property) and capex can be adequately funded from current/future cash generation. At the current share price, a share buyback programme isn’t intrinsically attractive, so a special dividend makes the most sense – but I wouldn’t bet on it! As I’ve mentioned before, I’m loathe to pay in excess of a 20 P/E, and a 1.67 P/S is appropriate for Andor’s current operating margin. Like a lot of fast-growing stocks, this stock appears mildly over-valued from a value investing perspective – I suspect, however, that a potential takeover premium’s probably built in, and will persist…

Botswana Diamonds (BOD:LN), Connemara Mining (CON:LN) & Clontarf Energy (CLON:LN):   Another three companies from the ever-prolific John Teeling. Aah, God bless him, he really is a wonderful stock-promoter. In a gentlemanly kind of way. I’d enjoy having a whiskey and a chat with him. As long as I didn’t end up investing in one of his companies… Speaking of whiskey, perhaps his biggest success has been the $95 mio sale of Cooley Distillery to Beam (BEAM:US). Unfortunately, this was an unlisted company, and even here (speculating on the total capital raised, and the 24 year timeline) I have to wonder what kind of IRR was really earned?

These three companies drill holes – and that’s about it… OK, I’m kidding, but they’ve nothing to show for their efforts to date. And if, by some stroke of luck, they ever strike anything decent the ultimate dilution for existing shareholders will probably be atrocious. I value them based on cash, less one year cash burn, which implies they’re all basically worthless and will continue to be serial placers. The average record of John Teeling‘s other exploration companies doesn’t inspire much hope either. Though I must confess I got vaguely excited at one point about Petrel Resources (PET:LN) – excellent contacts and first-mover advantage in Iraq, and all that! Not enough to contemplate investing, however… This chart tells their subsequent story.

Circle Oil (COP:LN):   Circle’s an oil & gas exploration and production company focused on the MENA region, primarily Egypt & Morocco. Despite a v successful drilling record, and rising production, the company remains cashflow negative and looks pretty over-valued based on its 2P reserves.

I’m sure I’ll infuriate message-board trolls once again with this asset/reserves based approach. Humph, maybe I’ll modify it when somebody gives me a reasoned argument demonstrating the error of my ways? That’s hoping for too much, I think… The nearest I’ve seen is a great writeup of one company’s drilling licenses and potential prospects. But the trouble is I’m not going to pay up for something as intangible as prospects, or for the likes of inferred or contingent resources. Call me a value investor, or simply sensible… Sure, you can take a bet on stuff like that, and you might strike it lucky… Lucky being the key word, I don’t believe that strategy’s will pay off on an expected/average basis over time. And, of course, because of the hoopla that surrounds strikes, investors often forget that’s only another small step forward along a v uncertain and expensive path.

I’m sure somebody will point out I’m missing Circle’s ultra-cheap P/E ratio: 6.5! Wow, do I have a screw loose..?! Well, Circle’s still cashflow negative, so I’m not sure how relevant a P/E ratio actually is? And if we did use a P/E ratio to set fair value, what would we use? A high P/E ratio generally signifies fast-growing earnings, a low P/E the opposite – with most oil companies, if the oil price halves you can be assured earnings will also dump! And if the price of oil, and earnings, doubles are you really going to jack up the P/E ratio accordingly? P/E ratios are meaningless in this type of situation…

To look at it another way, imagine two companies identical in all respects, except one company’s reserves/resources are exhausted in 40 years and the other only has 5 years left. Are you going to slap the same P/E on both company’s earnings? Of course not! You’ll try to mark the P/Es up and down accordingly – so you’re trying to reflect their respective reserves life. This makes some sense – in fact, I’ve previously argued that natural resource stock P/Es should be higher, in theory, to reflect this. Or picture a company that doubles it production, and earnings – are you going to double your P/E ratio? Nope – because at that run rate the company has just halved its reserves life!

So, P/E ratios are meaningless or, at best, a v rough rule-of-thumb pointer to the reserves life of an oil (or other natural resources) company. All good reasons to ignore them, go straight to the source and actually calculate net asset value based directly on reserves. About the only exception I’d make is for a large cap/blue chip resource stock which is self-funding, with a long/consistent history and a dividend policy. Using a P/E and/or P/S ratio as a valuation component makes better sense for this kind of stock – like Tullow Oil (TLW:LN), and perhaps I owe Dragon Oil (DGO:LN) a revaluation on this basis at some point.

Cove Energy (COV:LN):  With the share price doubling in the past 3 months, and two bids on the table, valuing Cove might be a good sanity check of my asset based approach. Cove has plenty of cash on hand, sufficient to fund over three years worth of cash burn. This is a great position of strength to come from when you launch a sale process for the company. Compare this to Minco (MIO:LN), among many others, who presented its shareholders with the crappy choice of accepting a poor project bid or coughing up for one of many more placings.

Cove recently inked a deal worth $39 million for the sale of its Tanzanian interests, but the main value of the company’s tied up in its 8.5% Working Interest share of the Rovuma Basin Offshore Area 1 natural gas field off the coast of Mozambique (operated by Anadarko (APC:US)). The latest recoverable resources reported by APC are 17-30+ TCF of gas. On average, this is equivalent to approx. 3.9 bio boe (6,000 cf of gas to 1 barrel of oil), and Cove’s cut is about 333 mio boe. But recoverable resources are not proved/probable reserves…

However, that may well suit Anadarko’s purposes for the moment, clearly the project is entering development, and now two oil majors are bidding for Cove. This merits my normal $10 per boe valuation metric, but with a 50% haircut applied to reflect the fact these are still only resources. There’s a new twist though – Cove recently admitted the Government of Mozambique may levy a tax charge on a sale of Cove’s interest. Not having a clear idea of what tax might be involved, or the base cost that can be ascribed at the time of transfer, I’ve simply assumed a 15% tax bite will be applied to the gross asset value.

Put this together with Cove’s cash, annual cash burn and Tanzanian proceeds we arrive at a Fair Value of GBP 204p per share – remarkably close to the current share price! (This would jump to GBP 236p if the tax threat is eliminated.) It’s also right on top of the GBP 195p and GBP 220p cash offers from Royal Dutch Shell (RDSA:LN) and PTT (PTT:TB), respectively. Of course, these offers were made before the tax issue came to light.

In summary, the share price clearly approximates fair value. Any further (and smaller) upside from here will depend on clarification/resolution of the tax issue, and how badly Shell might want to up its bid assumptions/overpay to beat PTT and acquire Cove.

Escher Group (ESCH:LN):   I can’t think of a worse ‘growth‘ market to sell into than national postal authorities..! Oh God.. And any effort to stem their horrific bureaucratic inefficiencies, not to mention financial losses, inevitably becomes bogged down in social/political debate. Since Escher just won a large USPS contract, let’s take a brief look at USPS for a little fun:

Check ’em out on Wikipedia, if you can believe it they’ve got 574,000 employees and run 218,000 vehicles! Holy f**k! I was puzzled to see they haven’t directly received US taxpayer dollars since the ’80s, but you’ll see why when you review their 10Qs and Ks. Yes, they actually prepare these, here’s their latest 10K! They managed to lose $5.1 bio in FY 2011, they’ve $13 bio in debt, even larger worker’s comp. liabilities and $(18.9) bio of Net Equity (yes, that’s a negative figure!). To add insult to injury, they managed to increase this to a $3.3 bio loss just in Q1 2012. And against this backdrop, they’ve been debating for years if they should drop Saturday mail delivery – you’ve gotta be kidding me..?! And people are up in arms about this… Sigh – they’d prefer to underwrite a $5-10 bio annual taxpayers subsidy to keep another day of junk mail delivery?!

In Escher’s defence, they’re a world leading provider of POS software. Escher’s core product, Riposte, provides a solution for postal authorities seeking to counteract a decrease in traditional mail volume by widening their service offering, reducing cost and increasing efficiency. Let’s hope this is a growing niche within a dying market… 2011 revenues are expected at $14 mio. A 20-30% bump in revenues can be expected from the new USPS contract, but this is likely to be accompanied by upfront expenses and working capital investment, so let’s base our valuation on 2011.

Looking back to the admission document, it looks like Escher averages ’round a 31% operating margin, as you’d expect from a true software company. The cash raised at listing was unfortunately more than absorbed by outstanding debt, so I’ve only upgraded my valuation slightly for financial strength. Based on a 3.0 P/S ratio, my fair valuation actually corresponds to a 19 P/E – certainly high enough in the circumstances, but the market’s got a little too excited in the past month or so, and ESCH’s now looking quite overvalued.

Galantas Gold (GAL:LN):   Galantas is a Canadian company, but operates a (producing!) gold mine in Tyrone in Northern Ireland. I haven’t dug into the financials in this respect, but I presume it’s a pretty high cost per oz operation. It does make a profit, but operates on a cashflow neutral/negative basis after capex etc. They also launched their own gold jewelry range, but this proved a bit of a disaster. They would be better served by focusing on proving up their reserves/resources more comprehensively – they’ve only 16,000 oz in the Measured category.

Unfortunately, for a gold company, I haircut my value on oz in the ground fairly severely if they’re not in the Proved/Probable category. Add this asset value to cash on hand, and Galantas looks overvalued – if you want an Irish company with gold exposure, Ovoca Gold (OVG:LN) appears the better choice.

iShares MSCI Ireland Capped Investable Market Index ETF (EIRL:US):   This is a small fund, but appears to have better trading volume than its larger peer, the ISEQ 20 ETF (IETF:ID). There’s a big overlap in portfolios, and little to choose between them. The main thing I focus on is my general distaste for ETFs, and the general over-valuation I currently perceive in the larger market cap Irish stocks. Using the refreshed prices & file (attached), the ISEQ Average Mkt Cap Weighted Upside Potential (excluding AIB) is now at (20)%, so I definitely recommend individual stock picking (rather than ETFs) if you want some Irish exposure.

Kentz (KENZ:LN):   Kentz’ financials have been a joy to review for the past few years – in fact, my only problem is the fact the shares jump out of reach every time I go to buy them..! Damnit! The KENZ share price has almost quintupled in the past 3 years. Despite that, every time I revalue them afresh I’m surprised to find them undervalued. This is not what I expect – the market’s usually far more enthusiastic than I am for a high growth company!

I guess the problem lies in its business. Kentz provides engineering and project management services to complex projects for oil/gas and other natural resource companies. This can be a difficult business to get a handle on, and sometimes feels a bit like a black box business to investors – everything’s rosy, until suddenly it’s not… It’s obviously v important to stick with the best players (and management) in the business if you want to make an investment in this sector. Another issue is the fact, like all contractors, Kentz has a bumped up balance sheet with a growing imbalance between payables and receivables. Of course, I should stress this is to Kentz’ benefit – in fact, they’ve a $223 mio net cash position – but it scares the bejesus out of some people. I’m v much reminded of Interior Services Group (ISG:LN) which I’ve touched on briefly here and in blog comments elsewhere. It exhibits many of the same characteristics, and seems to be similarly undervalued.

I take a more relaxed attitude:  I’m sure you’ve noticed my bullish views on oil, and related investments, recently..! Kentz is in an industry and a position which offers you another marvelous opportunity to exploit this particular investment thesis – a perceived negative’s really a big plus! And the growing balance sheet/net payables position doesn’t faze me either – it’s simply a normal feature of the business. To take a more pessimistic perspective, I’d point out if that position starts to unwind (pressuring Kentz’ cashflow), you’ve probably got bigger business issues to worry about anyway with Kentz… So why worry about this balance sheet quirk, focus on the business value and prospects vs. the stock value!

Kentz’ operating margin (of 6.3%) has been increasing steadily, and annual earnings growth in the past couple of years has been far far in excess of 20%! This deserves a P/S ratio of at least 0.6, plus a substantial financial strength adjustment to reflect Kentz’ cash and debt capacity. Again, a 20 P/E ratio is as far as I’ll stretch despite the recent superior earnings growth. Based on this, Kentz has some decent upside. Additionally, fair value could march higher fairly swiftly if the current growth trajectory’s maintained – with a $2.4 bio backlog, and a $10 bio prospect pipeline, this seems well supported.

Minco (MIO:LN):   Minco’s rather instructive – when do you pass on a stock that trades at a 42% discount to NAV (composed of cash & securities)?! Sounds like a trick question – but the answer’s pretty simple: When you have a high degree of confidence in management…to piss the money/value away over time..! I’ve mentioned these muppets before.

Minco was set up as an Irish zinc exploration company and, in partnership with Xstrata (XTA:LN), they actually found a highly attractive (and likely commercial) zinc discovery. Xstrata then promptly put them in a head lock, to which Minco quickly caved and sold out for what seems a lowly $19.4 mio. This once again illustrates just how high/numerous the hurdles are for investors looking for long term success in junior resource stocks. Even a significant discovery provides absolutely no reassurance of eventual financial success.

And before anybody interrupts, this was not a success by any stretch of the imagination – look at the equity section of the balance sheet, consider the 10-20 years that have passed, and it becomes obvious this was an atrocious return on capital, time and energy invested. And now, logically, Minco’s corporate purpose has been served and it should be wound up and net proceeds returned to shareholders… But did you really think management could let go of their plaything/money-earner? Of course not! Hasn’t it kept management gainfully employed, and handsomely rewarded, all that time?!

They’ve still got a 29% stake in Xtierra (XAG:CN) – a Canadian exploration company into which I’m sure they’ll pump more funds. I’m also sure they’ll eventually something else to bury shareholders’ money into for another decade or two… There’s v little reason to think the current value can be extracted from this stock.

* Quite possibly because of this inane explanation of their name:

‘The name “Jazz Pharmaceuticals” was inspired by the talented jazz musicians who come together — each a musical specialist with an individual style — to make music in concert that is greater than the sum of its parts. Jazz musicians are known for working together to create new and exciting riffs or new variations on familiar themes. Jazz music showcases the coexistence of improvisation and structure.’