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Highlands Natural Resources: Some funding (not death spiral, honest) but a hugely risky punt even at 14p, sorry I mean 12p

By Cynical Bear | Friday 7 July 2017

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from ShareProphets). I have no business relationship with any company whose stock is mentioned in this article.

Two weeks ago, following the results of Highlands Natural Resources (HNR) I advised getting out at 23.75p as the bubble appeared to be bursting (see HERE). Well done if you did as you could have got back in at 12p last night as part of the announced funding via PrimaryBid but the question is: should you have done? Hmm, I’m not quite as tempted as Tom sounded HERE but let’s take a look at the details.

First, Highlands has obtained third party financing from Raisa II, LLC, in which Raisa has agreed to make an immediate payment of $776,000 and also agreed to pay 28.75% of the costs of the first ten wells and 25% of the remaining wells, up to 24 in total, which could make the overall funding package over $32 million, in return for a 25% share of the returns from the wells.

This is good news and I won’t pretend otherwise as getting an independent third party to put its hand in its pocket to help fund East Denver is great.

The rest of the funding for the first well is coming from a placing, subscription and open offer also announced after closing yesterday at 12p. It was announced this morning that PrimaryBid had raised its underwritten minimum of £2 million.

So the good news is that Highlands can now fund its first well which has to be started by 1 September which it should be able to achieve but that’s about it. It states quite clearly that unless this first well is a success, it will run out of money by end-November and will need to raise further funds by end-October.

I’m not an oil and gas guy so have no real view on the likelihood of success with this first well but there’s not much cash headroom here. In addition, in any event, it will need to find another $3.5 million to fund the second well which it is obliged to drill within sixty days of the end of the first one.

It does talk about potential other third party funding arrangements that could ease the pressure but for now, it just looks like a high-risk punt. Right up certain people’s bailiwick no doubt but not for me.

A couple of other observations.

The Primary Bid offer was only open from about 5pm to 9pm last night. If anyone was able to read the 342 page prospectus, digest all the detail and make a measured decision in that time, then they are a better man than me. I have spent twenty years reading documents like this during my career and I think I would have struggled.

I did find some interesting snippets though.

It looks like the funding was going to be done at 14p until quite late on. Although someone junior has no doubt gone through the document finding and replacing all references to 14p with 12p, it still remained in a couple of areas, one being a reference to the PrimaryBid warrants at 14p rather than 12p on page 304; the other being a reference to the placing price being at 140% of the nominal value of the share price, rather than 120%, on page 305. That’s the issue with “find and replace” – it’s not fool proof!

Secondly, it is good to finally find out the name of the “institutional investor” that bought all the Diversion warrants. Was it Fidelity or Standard Life? Er, no, it was Darwin funnily enough, one of our favourite death spiral funders, who flipped them on as Tom suggested on numerous occasions as covered HERE. What a surprise!

Hmmm, it’s all starting to make a bit more sense to me now; let’s try put the pieces of the puzzle together.

Highlands has a relationship with Darwin that managed to eke out £7.5 million from the average punter last year, most of which was above 30p.

It has now struggled to raise funding for some time but managed to persuade PrimaryBid to underwrite a raise of £2 million, albeit with a 10% fee and a load of warrants; the same PrimaryBid whose largest shareholder is, er, Darwin.

And the share price for the placing moved late on, in a similar way to the ever changing pricing on the Diversion warrant deals with, er, Darwin.

Hold on a minute – isn’t this just death spiral financing with a PI friendly facing front-end??

Darwin underwrite the raise, forward sell some of it beforehand, crashing the price, and then force a lower price for the placing to reduce the risk on any remaining shares it needs to sell off sharpish this morning.

I guess Highlands can try and do the same to raise the $3.5 million needed for the second well in a couple of months although not convinced how easy it would be to pull off the trick again, let alone a further 23 times.

I see the battle between bulls and bears is going full pelt on the bulletin boards and imagine that will continue for some time. The share price down about 10% at 13.375p as I write.

Good luck if this is your thing but I’m staying well clear as, in my view, there is a reasonable chance as things stand that the business just runs out of cash before the end of 2017 and even in an optimistic scenario I fear it may have to rely on Darwin, sorry I mean PrimaryBid, for its further funding needs with disappointing consequences for shareholders.

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