The Struggles of Indonesia Energy Corporation

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Summary

  • Indonesia Energy Corporation is a micro-cap oil exploration and discovery company that has recently been in the market spotlight.
  • The stock has gathered attention due to the news of its plans to commence drilling of two new oil sites.
  • INDO’s financial performance shows a significant decline in both earnings and revenue, in comparison to its pre-covid earnings in 2019.
  • In comparison to similar micro-cap oil E&P stocks, INDO showcases poor valuation and growth figures, suggesting a serious overvaluation.

Indonesia Energy Corporation (INDO) is a stock that I would confidently recommend selling. It is positioned in an industry that is facing increasing odds, and its small scale of operations magnifies these challenges significantly. As highlighted below, the company’s earnings and its price ratios explain this view.

Company Overview

Indonesia Energy Corporation is, as the name suggests, an Indonesia-based energy company, which belongs to the oil sector and operates as an exploration and production business. Valued by the market at a mere $120 million, and having 28 permanent employees, the company is of a small scale but has recently been making an appearance in the market spotlight.

One reason the stock had been gathering so much attention was the recent news in January 2022, of plans to begin drilling three new oil wells in the Kruh Block in Sumatra. As a result, interest in the stock skyrocketed, with bulls rushing to get their hands on INDO.

INDO

What is special about INDO is its extremely low cost at which it can produce oil compared to its global competitors. In 2021, Indonesia Energy reported a cost of oil production at $24.51 per barrel. This was significantly below the prior year’s global average reported at between $30 to $40. This, combined with record-high oil prices in the open market, pointed to the substantial profit potential that INDO holds, and as a result, the surging price flight saw a continuation in its momentum.

Oil Industry and Its Challenges

The oil industry is no longer seen as the stellar dragon it was once seen as, just a couple of decades ago. Rising oil prices and disruptions coming out of the Ukraine-Russia conflict are only surface-level issues that the industry faces. There remains a deeper set of more fundamental issues that put the sustainability of the industry in a question mark.

The most concerning threat that the oil industry faces at large is a dwindling discovery rate with time, despite an ever-surging demand. Research has found that oil discoveries had hit their peak in the 1960s and have been on a decline ever since.

Although this threat had been seen as a distant concern in the past, it is increasingly being actualized in the present, with 2021 seeing a mere 4.7 billion barrels of oil discovered, which is the lowest figure reported in nearly 75 years.

These inherent circumstances in the oil industry make discovery announcements even more valuable, given the relatively low success rate that is prevalent. For companies like Indonesia Energy, it is no wonder that an announcement of an oil well discovery would see its share price shoot up from less than $3 at the start of 2022, to over $60 by early March of the same year. However, this climb up was short-lived, with INDO falling over 70% from its peak to about $12 by mid-May. This understandably points to concerns about the sustainability of such price gains, as a discovery of a few oil wells alone does not guarantee long-term growth or success.

There has been a global push away from fossil fuel-based energy solutions toward more green alternatives. As a result, a significant investor exodus has been observed throughout the last decades, with many choosing to invest in clean energy stocks. As a result, the ability of the oil industry at large has been obstructed to strategically realign in the climate change context. Adding to this, price volatilities and geopolitical tensions have made the oil industry quite a risky option for investors to consider, with far safer and more sustainable options.

Earnings and Performance

In its recent annual report for 2021, INDO delivered revenues of $2.45 million, which was a 24% climb from the prior year’s revenue, but a 41% drop from 2019’s revenue figure of $4.18 million. Similarly, operating loss fell from the prior year’s $7.27 million to $6.1 million, but a drastic increase from the 2019 operating loss of $1.6 million.

Where the wider oil industry had seen a rebound in 2021, after the Covid-related shock waves began stabilizing, INDO, during the same year, had reported concerning figures that were still significantly below its pre-pandemic performance. This inconsistency in earnings is a significant red flag for the stock, making it difficult for market participants to take long positions on the stock without exposure to serious uncertainty about future performance and sustainability. Given the precarious nature of the oil industry, placing one’s bets on a micro-cap stock makes little sense, despite the low cost of production it promises. There is no certainty that these costs will remain low as INDO drills further oil wells and expands its operations, and investors that want to maintain exposure to the oil E&P industry would be better off with the stock of a larger company. As opposed to Indonesia Energy, a larger company would be far more efficient at driving down costs through economies of scale and would have a better capability of continuously discovering oil sources.

Comparative Valuation

In addition to the uncertain earning figures demonstrated above, it would be useful to assess INDO’s valuation metrics, as it fairs against comparative stocks in the oil E&P industry.

The stock’s PS ratio is the first red flag for market participants, given that its peers each are well below the double-digit mark, whereas INDO is only slightly below 50. As a result, its share price is far too high given the revenue it manages to deliver. Coupling this with the fact that INDO holds the lowest and the only negative EPS figure on the list, it would be fair to assume that the stock is currently overpriced at a significant level.

The P/B ratio further points to a possible overvaluation, given its significantly high figure of 13.87. Although this is not as high as the P/B ratio of MVO, when coupled with other metrics such as the PS ratio, it uncovers serious risks for anyone considering buying or even holding the stock. This view is further exacerbated by the stock’s low EPS growth and sales movements, on an annual basis. For a company that is classified as a micro-cap stock, the only redeeming factor is a high growth rate, which INDO does not hold. Moreover, its extremely low ROI, and gross margin point to the stock as being a value-burner, as opposed to being a value creator for its shareholders.

I believe it is clear that the valuation metrics for INDO look dire, with little that one can be hoping to justify betting on the stock. The oil industry is viciously competitive, and micro-cap stocks struggle to make a mark against industrial giants that are far more financially and operationally capable of delivering gains through exploration and production. Furthermore, as it is already pointed out, the oil industry is facing increasing odds at exploration because of dwindling discovery rates. In an environment marked with such extreme challenges, market participants may be better off opting for a larger company that has a stable operating income and a steady growth trend. Even in the case where one is inclined towards a micro-cap stock, there are far better options to park one’s funds in than INDO.

Conclusion

As a micro-cap stock in an industry that many have been calling unsustainable, it is difficult to identify any incentive for one to hold INDO. Given declining rates of oil discovery, as well as the global move away from fossil fuels, alternative industries are increasingly shown to be far more suitable options for investment. Even where one is adamant about ensuring exposure to the gains of the oil industry for their portfolios, INDO is a poor option, given its comparatively weaker valuation, as well as earning metrics. For these reasons, I maintain INDO is a sell, and going for a much larger-sized oil company stock would deliver greater income stability, and cost reduction, because of its economies of scale.

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