Does Premier Oil plc's "world class discovery" make it a world class buy?

Premier Oil
Premier Oil

Shares in oil explorer Premier Oil(LSE: PMO) are charging higher this morning after the company announced that it had made a "world-class" oil discovery offshore in Mexico.

According to a press release issued by the firm today, drilling at its Zama-1 exploration well hit a gross oil bearing interval spanning 335m, with up to 200m of net oil bearing reservoir. Initial indications seem to point to the conclusion that the well could contain as much as 1bn barrels of oil, making it "a commercial standalone development which adds materially to Premier's portfolio of assets worldwide," according to management's press release.

Back to the boom times?

This find is a boon for Premier, which has struggled with low oil prices in recent years. Shares in the company, which were worth more than 400p at the beginning of 2012, have lost around 80% of their value over the past five years, falling to a low of 19p at the beginning of 2016, when it was widely assumed that the group was on the verge of insolvency.

However, over the past six months, thanks to an agreement with lenders, a rise in the price of oil and efforts to slash costs across the firm, investor confidence has returned, and shares in Premier have increased by just over 200% from the 2016 low. After three years of losses City analysts expect the company to return to profit this year, with a pre-tax profit of £42m and earnings per share of 0.7p projected -- not much but it's a start.

For 2018, based on current oil price projections, the company's pre-tax profit is expected to hit £209m and earnings per share are set to come in at 22.4p.

Restoring confidence

The Mexico find should help restore investor confidence in the company, as well as significantly increasing the underlying net asset value of Premier. The UK-based oil and gas producer only owns 25% of the prospect, with Talos Energy of the US and Mexico's Sierra Oil & Gas holding the remaining 35% and 40% respectively. According to Tim Duncan, president and chief executive of Talos, the block's operator, development of the prospect is going to start relatively soon with well appraisement scheduled for 2018 and production beginning between 2023 and 2025.

This is just one of a number of assets Premier will have to contribute to its growth in the years ahead. That being said, the company's prospects remain dependent on the price of oil, and as OPEC continues to fight with shale producers for dominance of the market, it does not look as if the price of oil will return to its previous highs anytime soon.

Unfortunately, this will make life harder for Premier, but after completing its refinancing at the beginning of the year, the company is well placed to weather the storm. However, this isn't a stock for the faint-hearted and the fact that shares in Premier currently trade 40% below their 52-week high should serve as a warning to investors that the outlook for this company is still far from clear.

Make money, not mistakes

Buying an oil company just because of one significant find, without any regard to the underlying fundamentals can be a big mistake. Before making a trading decision you should always consider a company's long-term outlook, not just short-term price movements.

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Rupert Hargreaves 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.