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Even allowing for the tax dispute risks, JKX looks good value - speculative buy

By Gary Newman | Sunday 5 August 2018

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.

Often at the lower end of the oil and gas sector private investors get fixated with taking gambles on drills with large prospective resources and dream of untold riches if the company gets lucky with the drill bit, but the reality is that in the majority of cases this will result in a duster and substantial losses.

A far better, and lower risk, strategy would be to invest in some of the small companies that are actually producing already and are starting to turn a profit from that activity, along with the potential for further growth. Unless you are purely playing the share price spikes that accompany the occasional piece of good news then these are usually likely to outperform explorers that are years away from actually extracting anything from the ground.

JKX Oil (JKX) has had its share of ups and downs over the years, and although it has already seen a significant rise in share price since the start of this year, that increase has been gradual over a period of time, and as long as the company can continue to make progress then I see no reason why that can’t continue.

Currently this Ukraine, Russia, and Hungary focussed oil and gas producer is valued at a little over £50 million, with a share price of 31p on the ask, and I can see value at that level, based on the latest set of financials and the trading update.

The biggest thing holding this back at the moment I think is the unknown outcome of a case relating to its subsidiary, Poltava Petroleum, in the Ukraine, and the rental fee demands and a potential tax liability of $2.4 million that is associated with this.

This case is currently in court and the hearing has been adjourned until August 15, and should there be a negative outcome then I believe that it would have a significant downwards impact on the share price. 

Losing this case could well have a wider impact on the company with regard to several other ongoing tax cases, and the worst case scenario could leave it owing around $25 million.

In this scenario, if the Ukrainian government was to demand all of the money owed immediately, then the company would be unable to meet these demands, as the company only had $7.5 million in the bank at the end of June 2018 – plus $5.7 million in undrawn credit via its subsidiary, and nearly 44,000boe in inventories.

This is the big risk which you are taking here, as losing these cases would put the company y in a bad financial situation, but the flipside of that is that it looks cheap based on its actual current operations.

The last interims up until the end of June 2018 showed that the company had generated revenue of $42.4 million, resulting in an operating profit of $7.4 million and a net profit of $1.9 million (including $3 million in exceptional items).

It has seen its gas production reduce in the Ukraine due to natural decline, but it is continuing to carry out workovers on some of its wells, with three planned for the latter part of this year.

Production does seem to fluctuate a fair bit anyway, looking back historically, as work is completed or wells are temporarily closed for workovers, and falling gas production in the Ukraine, as compared to the first half of 2017, was offset by better figures from Russia, plus higher oil production.

Ignoring the possible liabilities from the tax cases, the company is well placed to pay its debts as they become due, and managed to increase its cash balance despite repaying $6.9 million of a bond plus interest in February.

If you are prepared to take a risk on the tax cases – just be aware that this could have the potential to hit the company badly, so don’t throw the kitchen sink in here if you do buy some shares – then given that the company is realising higher gas and oil prices for its sales, and actually making a net profit, I think it does look cheap when you consider that the tax regime for producers in the Ukraine has improved substantially. The risks are certainly less significant than investing in an exploration company.    

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