Morgan Stanley is out with a major (not to mention gutsy) call on InterOil Corporation (NYSE:
IOC) initiating coverage on the name with an Overweight rating and $65 target.
According to the firm, IOC's business model has matured as interest in the story has waned. They see compelling risk/reward and believe IOC is poised for a major transformation — from a volatile, and often controversial, exploration-focused integrated oil company to a global LNG player with significant exploration upside in Papua New Guinea (PNG). Firm sees $5/share of value for existing downstream operations, with a call option on successful LNG development worth $60/share ($30 upside from current share price). Their price target offers 88% upside, and they see upside potential to their target as elements of the story derisk over time.
Morgan Stanley thinks capital markets do not fully value:
1) Potential of IOC's discovered resource. We estimate in excess of 6Tcfe gas and 75MMbbls liquid.
2) Potential for resource monetization. IOC is in the final phases of due diligence with several companies on an upstream partnership and LNG venture;
3) Exploration upside. Morgan has a favorable view of current drilling potential of the Antelope-2 well and exploration potential in PNG.
4) Refining upside. They see refining upside for IOC as a niche refiner levered to economic growth in PNG.
Unnoticed positive exploration and development story creates a buying opportunity.
They expect the gap between improving fundamentals and the stock price to close as the new story is understood. Firm has investigated alleged negative claims, visited every IOC well-site in PNG, conducted due diligence, and analyzed the financials. They expect significant share price appreciation once the market begins to see evidence of transformation led by potential 2009 catalysts: success at Antelope-2 and a sell-down of IOC's project interest.
Better Positioned Today
IOC appears to be better positioned for success than at any time in its 15-year history. As an early-stage exploration company with only 3 quarters of positive net income (and zero fiscal years), IOC has raised numerous financings from various parties since its inception in 1997 to fund operations and exploration.
- IOC's resource estimate has risen from 0 in 2007 to 3.4Tcfe in 2008 to 6.7Tcfe post Antelope-1 in March of 2009.
- Its well results have been incrementally better from 2006 to most recent well in 2009.
- It is currently drilling another well into the Antelope structure that should be lower risk than its prior wells; it has the most visible catalysts in its history.
- It has a high probability of executing an LNG partnership to monetize its gas, they think.
Yet its stock is 35–40% off its 2005, 2007, and 2008 highs.
Morgan believes many investors may be associating earlier versions of IOC's story with the stock while IOC's position has materially improved. Their primary interest is the future and not IOC's past.
Notablecalls: IOC is probably the most controversial Oil name out there. I'm sure everyone is familiar with the 'work' Fraud Discovery Institute has done in the name claiming IOC is a Ponzi scheme. This is partly the reason why none of the tier-1 firms have picked up coverage on the name.
And now MSCO comes out saying they have done lots of due diligence and they believe IOC is worth $65 here and possibly $100 if things work out well.
That's a blessing. They cannot afford to be wrong here.
IOC is surely a mover and will probably show its good side today. I would not be surprised to see a HUGE run in this one today and coming weeks.
