Why I'd sell 88 Energy Ltd to buy this stock

Investors who bought shares in 88 Energy (LSE: 88E) in 2015 are still sitting on a profit of about 150%. But the firm's share price has fallen by 32% so far this year, and progress seems to have stalled.

Supporters of 88 Energy will probably point out that the company recently reported 1.14bn barrels of unrisked net mean prospective resources for its Icewine project in Alaska. The company's market cap of about £85m means that this equates to less than 8p per barrel.

The problem is that prospective resources are highly uncertain. They may not exist at all, or they may be unsuitable for commercial extraction. The firm's shares crashed 37% in one day on 10 July, after it announced a six-week shut-in period for the Icewine#2 production test well following its completion.

Investors had been expecting news on flow rates, but the company said it hoped that a shut-in period to allow pressure to build might improve the well's performance. A successful result could lead to the conversion of some of the firm's prospective resources into more valuable contingent (discovered) resources. But in my view, the commentary so far suggests the well results may be disappointing.

A second concern for me is that Icewine won't necessarily be cheap enough to be profitable at current oil prices. In February, 88 Energy said that depending on resource estimates and costs, an oil price of between $27 to $68 per barrel would be required to continue exploring and developing the field.

With US WTI crude oil currently trading at $48.60, I think there's a genuine risk this project won't be commercially viable.

We'll know more when the results of the Icewine#2 well are published. But I believe there's a significant risk of further losses for investors in 88 Energy.

A top resource buy?

Although I do invest in resource stocks, I prefer to focus on companies with proven assets, cash flow and profits. Doing this reduces the risk of permanent losses on my investments.

One company that's come onto my radar a number of times is Caledonia Mining Corporation (LSE: CMCL). This gold mining firm owns a 49% stake in the Blanket Mine in Zimbabwe.

The company said today that gold production rose by 8.5% to 25,315 ounces during the first half of 2017, despite some "underground logistical constraints" during the period. The all-in sustaining cost of mining fell by 8.6% to $856/oz., while the average price of gold was broadly unchanged at $1,224/oz.

The end result for shareholders is that adjusted earnings rose from 43 cents to 45.7 cents per share during the first half of the year. Second-quarter earnings were low due to a variety of one-off factors, but management says that July saw a significant increase in the quantity and quality of material mined.

This company has an excellent financial record. It's maintained a net cash balance since at least 2011, and generated an average operating margin of 26% over the same period.

Full-year earnings forecasts of $1.78 per share put the stock on a 2017 forecast P/E of 4. There's also a cash-backed dividend of $0.30 per share, giving a prospective yield of 4.5%.

I believe that for resource investors with an eye for value, Caledonia could be worth a closer look.

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Roland Head has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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