InterOil (NYSE:IOC) recently announced that final bids are due on February 28th for the partial sell-down of the Elk/Antelope resource. If this was a normal situation, you would expect the stock price to gradually move up towards the expected bid value (well over $100/share) minus a risk discount. Instead, the short interest has climbed to an all-time high (11.4M shares) and the stock has drifted sideways to slightly down. Why is this? As the shorts repeatedly point out, the CEO Phil Mulacek has made numerous statements in the past regarding a pending sell-down and those dates came and went. As a result, Mulacek has lost all credibility with Wall Street and the shorts are counting on Phil to screw-up yet again. Curiously, this is the short thesis of three well-respected hedge funds I spoke with over the past two weeks.
It is always dangerous to say 'This time is different', but the facts support this conclusion. On July 2, 2012 InterOil announced that Gaylen Byker assumed the role of Chairman of the Board. Potential bidders wanted assurances that the bidding process would be run professionally and that the goal posts would not move (yet again). Word is that several bidders expressed specific concerns regarding Mulacek and his questionable credibility in regards to the bid process. InterOil desired to demonstrate its commitment to a professional process and was not going to let anyone (Mulacek) subvert the process. The Company responded by marginalizing Mulacek's power on the Board of Directors. From some reason, the shorts fail to embrace the significance of this.
Formal bidding instructions were sent out to all potential bidders by the investment banks running the bid process with a firm deadline for bids of February 28, 2013. Formal bidding instructions from 3 world-class investment banks and a firm bid deadline have never happened in the past. I guess the shorts do not care about that fact. The Board of InterOil is extremely committed to the completion of the competitive bidding process for Elk/Antelope. It feels that all parties (InterOil and the potential bidders) have sufficient information on the E/A reservoir to make informed decisions.
It is curious that the shorts are no longer barking about the quality of the E/A reservoir. Several reservoir engineers (Gaffney Cline, GLJ, Knowledge Reservoir) have estimated E/A to have 6-9+ Tcfe. The drilling logs were all done by Schlumberger. The bidders all acknowledge the high quality of the E/A resource. Antelope 3's drilling results only strengthen this conviction.
So….where does that leave us? The shorts are betting on another delay given IOC's colored history. Are the shorts making a smart bet or crappy bet?? Hmmmm. Well, there was never a formal bid process with a firm bid deadline, managed by three world-class investment banks, and committed to by a Board not headed by Mulacek before. Further, the Board is under immense pressure from IOC's largest holders to get the deal done.
Lastly, there are at least three super majors, one national oil company (Chinese??), and Japex/Kogas/Mitsui involved in the process. InterOil's Board is partial to selecting a super major, unless the JKM bid is substantially superior. It will be hard to argue that a partner like Shell, Exxon or Total does not erase the lingering credibility overhang.
I expect we will see IOC drift up towards $75-$85 heading into the bidding results. The Board is scheduled to meet on March 4th. I expect we will hear an update from IOC shortly after (within a few days) of the Board meeting. Any deal that values the resource over $1/mcf and includes at least $200M cash (with part of it upfront) should be adequate to shatter the short argument and propel IOC to well over $125/share (NAV is over $250/share). Good luck to all and I hope that the shorts get what they richly deserve.