Edmond Jackson's Stockwatch: Polo Resources "shaping up nicely"

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

In a recent piece on AIM-listed GCM Resources, I suggested a lower-risk means of exposure is via AIM-listed Polo Resources, which is currently capitalised at £51 million and owns a 27.8% stake in GCM in a broad-based portfolio including substantial cash.

It is currently interesting to consider Polo on its own merits following interim results for the six months to end-December 2013 - as a means to capital growth from early to mid-stage resources projects, with geographic diversification (see table).

Break-even

Results reporting so far has tended to focus on Polo approaching break-even with a like-for-like pre-tax loss cut from $8.8 million (£5.2 million) to $2.5 million as administrative expenses fell. Also the fact that there was no repeat of a $5 million impairment charge which previously hit the income statement.

More relevant to investors is a slight decline in net asset value (NAV) per share from 32.2p at 31 December 2013 to 31.3p as at 7 March 2014 - possibly why Polo's price eased 0.25p to 19p in response to the results.

It would help if the chairman's statement clarified matters relating to the value of a portfolio constituent, Signet Petroleum, and its share buyback after the sale of Namibian interests to Shell.

Possibly the downgraded NAV reflects what remains of the Signet assets after the buyback, with Polo expecting in due course to receive a minimum $22.8 million free of any taxation liability, equating to 5.1p per Polo share.

This compares with $42.7 million invested in Signet, i.e. just the kind of progress you would hope to see from an investment company. On the face of it you see a slip in NAV and the income statement still in loss, but timing issues may be involved and underlying value advancing.

Bumper dividends

As was shown last year by FTSE Mid 250-listed SOCO International, in the oil & gas industry value-accretive deals can also mean useful special dividends for shareholders. For now, at Polo "all proceeds will be reinvested to help unlock value in the existing portfolio as well as being available to acquire further undervalued and high potential assets".

But if the company can sustain this form then in a few years' time the payback could take the form of bumper dividends.

So Polo merits following and the market's treatment of its shares appears rather harsh, as if dismissing management's ability to enhance value just when the declared £13.6 million cash inflow from Signet shows they can.

A discount to NAV is not unusual for a smaller listed vehicle investing in illiquid, higher-risk companies; also considering the macro risks for hard commodities if China cannot manage its debts. The big question over many resources shares is whether hard commodity prices will be pressured by a contraction in China after years of benefiting from a debt-fuelled infrastructure boom.

Even if China avoids a financial crisis and recession, it needs to achieve better quality growth - e.g. including consumer spending - than projects which have resulted for example in "ghost cities".

This may seem detached from a small company like Polo but influences demand for hard commodities hence their pricing, also sentiment towards resources shares generally. Polo was incorporated in May 2007 amid "super-cycle" theories of commodity demand which came into question following the 2008 financial crisis and lower global growth rates.

China has been an exception but, some analysts believe, must soon face its own realities.

Judging management capability

Mind also, there is a twist in judging "management capability" here, regarding investments and realising value. Polo's management structure puts a lot of emphasis on the executive chairman: the board otherwise consists of just a finance director and two non-executive directors.

The current chairman, 40-year-old Michael Tang, has only been a board member for 10 months, whereas Polo's portfolio is essentially the work of 66-year-old industry veteran Stephen Dattels, who retired last October - also from board positions at West African Minerals.

When Tang was brought into the company last May, Dattels endorsed him saying: "Michael Tang's knowledge of Asian markets provides Polo with a springboard to the valuations which the Asian markets provide for high-quality natural resources companies such as those owned by Polo."

Possibly the market is waiting to see what kind of record he cuts at Polo, which didn't get off to the best start: Mettiz Capital, the Malaysian investment company he controls, bought an 11.77% stake in Polo last May at 40p per share.

Polo's volatile chart shows a downwards trend although current weak sentiment may be overdone similarly as hopes ran high. The extent of discount to NAV would appear to offer a margin of safety in the shares and the end-2013 balance sheet showed $8.7 million and a total $36.4 million "available for sale" investments.

I personally think Tang is optimistic if he thinks GCM can make headway in Bangladesh versus political interests still cautious of proceeding with a coal project that resulted in protests and bloodshed in August 2006.

But you could discount GCM, Polo would remain interesting as a diversified play in resources at a time when sentiment has ebbed. The question is whether his enthusiasm for GCM marks a sense of unreality that may become apparent in future deals Polo makes.

Otherwise the Signet payback marks this company shaping up nicely.

For more information see poloresources.com.