In the last year, Premier Oil’s (LSE: PMO) share price has traded as high as 186p. But since hitting that level in May 2015, the share price has collapsed and fallen to its current level of just 33.5p, which is a decline of 82% in less than nine months.
In order for it to hit that high once more, it would need to rise by 455%. While that would represent a staggering return, it may not be quite as unlikely as many investors may presently believe.
Clearly, Premier Oil has been hit hard by a falling oil price that has caused its profitability and investor sentiment to decline. It has also put pressure on the economic value of its asset base, which is obviously less appealing and offers reduced profitability in the coming years as a result of the lower oil price.
Despite the disappointment of a falling price for black gold, Premier Oil appears to be adopting a sound strategy to overcome the short-term challenges it faces. It’s focusing on reducing costs and becoming more efficient, but is also making use of its relatively strong balance sheet to boost its long-term profit outlook by acquiring E.ON’s North Sea assets for a total consideration of $135m. They have the potential to positively impact Premier Oil’s bottom line. And with the deal being funded out of existing cash resources, it’s unlikely to put additional strain on the company’s balance sheet moving forward.
Will oil prices rise?
In order for Premier Oil’s shares to increase by 455%, there clearly needs to be a hugely positive catalyst. Further acquisitions could help, but realistically a firmer oil price will be needed to deliver that level of growth. The prospects for this in the near term appear to be somewhat limited since the supply glut that has been a feature of the last couple of years is showing little sign of slowing. Even if supply were cut, there’s now huge uncertainty among investors regarding the price of oil and their fear may keep prices depressed over the medium term.
Still, the long-term picture for oil prices remains sound. Energy consumption, particularly in the developing world, is forecast to keep on rising. And although clean energy will become a greater part of the energy mix, fossil fuels such as oil are still set to play an important role in facilitating further economic growth.
With Premier Oil having net assets of £988m at the end of June 2015 (i.e. prior to the recent acquisition and before any further writedowns), it currently trades on a price-to-book value (P/B) ratio of just 0.16. On this basis, a 455% gain looks entirely possible, since it would mean that Premier Oil would need to trade on a P/B ratio of 0.9 in order to reach its one-year high of 186p.
While this doesn’t look likely in the short run and may not even be achievable longer term, the outlook for Premier Oil could be a lot more positive than the market is currently anticipating.