By Sonya Colberg
Magellan Petroleum Corporation (NASDAQ:MPET) stock has rocketed into treacherous territory as the market misses the extreme risks poised to slam the shares.
The Denver, Colorado company has abandoned the oil business amid plans to reverse merge with Tellurian Investments and eventually build a liquefied natural gas terminal.
But we warn investors that Magellan is one of the most overvalued stocks we’ve ever seen. The ~$15.6 billion construction costs, $168 million lawsuit, misunderstood major investment, uncertain LNG demand, fierce competition, 5-year construction schedule – plus the current technical RSI indicator – all multiply the risk exponentially.
Here are the eight top risks facing the stock:
1. Grudge Company: No Revenues
Investors seem excited right now about the planned reverse take-over of private company Tellurian Investments into Magellan.
Tellurian is the grudge company created by Charif Souki shortly after Cheniere Energy kicked the former chief executive out the door in late 2015. Mr. Souki wants the merged company to build a multi-billion-dollar natural gas liquefaction plant in Louisiana.
Unfortunately, the combined revenue of Magellan and Tellurian over nine months just barely eclipsed what a fast-food employee makes – $31,000:
(Source: Company SEC filing)
Ironically, the measly revenue came from Parallax Enterprises, which has been sued by Mr. Souki’s former company. Cheniere had loaned Parallax money as the two made plans for a liquefaction plant joint venture. Cheniere sued, according to the complaint, when Parallax (wholly owned by Martin Houston, expected to become the newly merged company’s executive vice chairman, alongside Charif Souki, chairman) didn’t cough up payments.
Meanwhile, there has been substantial doubt about Magellan’s ability to continue operating. Company filings say Tellurian is in bad shape, too.
“Because Tellurian’s assets do not currently generate revenues, the combined company is also likely to experience liquidity constraints.”
2. Magellan Stockholders’ Ownership Decline
Under terms of the merger awaiting shareholder approval in February, each share of Tellurian will be converted into 1.3 shares of MPET.
Former Tellurian investors will walk away with almost the entire company- about 96%.
Magellan stockholders will find themselves on the wrong side of this deal. They will be left with just a sliver of the company; just over 3%.
3. Unjustifiable After-Merger Valuation
As it turns company control over to Tellurian shareholders, the merger will dramatically increase Magellan’s current outstanding share count of 5.88 million. At the current lofty share price, Magellan winds up with an unconscionable market valuation:
(Source: Company SEC filing, TheStreetSweeper assuming post-merger estimates)
4. Recent Development: Compounded Risk
Magellan’s stock continues to streak into dangerous territory following news of an investment.
On Dec. 19, “Total SA” agreed to pay $207 million for 35.4 million shares of Tellurian stock, giving Total 23% of Tellurian assets.
That event put the valuation around $800 million.
Why – less than a month later on a post-merger basis – would the market valuation be over $3 billion?
That same company holding a tract of Louisiana land and an idea doesn’t get to be a multi-billion-dollar company a month later for no reason.
5. A Billion Here, A Billion There. Another Reason The Valuation Is Off
If anything, Magellan’s post-merger valuation should be well under $500 million.
The company will have to raise an unimaginable amount of cash- around $15.6 billion for construction alone. Tellurian expenses are out of control even when it is doing nothing, burning $9.8 million quarterly.
And the project near Lake Charles, Louisiana can’t become reality until the distant future.
The company hopes to deliver liquefied natural gas “as soon as 2022” and perhaps reach capacity in 2025. That time-line is probably optimistic because the company must first get approvals from the federal government to build and operate the proposed LNG facilities.
Even then, the project may not be built.
Liquefied natural gas is fairly hot at the moment, but fuel sources are extremely competitive and intense competition already exists among the 110-plus existing LNG terminals.
The snapshot below shows planned LNG terminals.
Here’s the deal: Magellan would have to land 75 “Total SA” sized deals just to pay construction costs.
6. Following Unfortunate Pathway Of MBOT and TRXC
Too many times investors have been pulled into a reverse merger that offers a thrilling market cap, which then gets chopped by a third or more.
Consider Microbot Medical Inc (NASDAQ:MBOT). MBOT stock fell more than 7% on Tuesday alone.
Less than two weeks ago, shares in this recent reverse merger consisting of little more than an idea had roared over $8.60. The market valuation exceeded a quarter of a billion dollars.
Shares plummeted as investors began to realize the risks we wrote about, including the 30-cent stock warrants and 64-cent conversion prices enjoyed by the lucky few.
Now the market cap has shrunk by one-third.
Transenterix Inc (NYSEMKT:TRXC) is another reverse merger. Shares in the surgical robot company caught fire though it had just one product and – like Magellan – a lawsuit and recent big investors. TRXC enjoyed a nearly quarter-billion-dollar market valuation when we wrote an article in mid-October. But only for a while.
The TransEnterix market valuation has been chopped nearly 40%.
7. Investigation, Massive Lawsuit
On Jan. 11, a New York law firm announced an investigation into how Magellan and its directors have handled the Tellurian merger. The firm is investigating whether federal securities laws or financial duties were violated. The effort could lead to one or multiple lawsuits and significant costs.
On May 2016, Tellurian, Mr. Houston and another officer were named in a lawsuit alleging issues such as breach of contract, fraud concealment and negligent misrepresentation. The plaintiffs, investors Simon Bonini and Paul Kettlety, seek damages exceeding $168 million.
The investigation and the existing lawsuit could cause material damage to company finances and reputation.
8. RSI Indicates Stock Drop Ahead
Finally, the relative strength index (RSI) of Magellan indicates the stock is overbought and may be positioned for selling. Typically, 70 is considered the beginning of an overbought stock. An RSI of 80 or above is generally considered a very strong indicator that the stock is ripe to sell.
Magellan has just hit an extremely high RSI of 88.
(Source: Yahoo, stockdisciplines)
Magellan is sizzling right now but we believe the stock is supremely positioned to go cold. The main investor made a $207 million investment at a roughly $800 million valuation and there’s no reasonable explanation for why the market valuation would triple several weeks later. It will take tankers of cash and multiple years just to see if the project might work. Rather than three times the price of Total’s investment, the valuation should be one-third that price.
We believe that decline will occur after the merger when people recognize the absurd valuation and the enormity of the challenges.
Meanwhile, the company will be forced to go after loans and dilute existing stockholders again and again and again.
We expect this stock to get annihilated, dropping 50% near term before collapsing to around $1.90 per share.