How Much Lower Can Afren Plc Go?

Investors quickly turned their backs on Afren (LSE: AFR), after the company revealed that its chief executive and chief operating officer had been suspended, for allegedly benefitting from unauthorised payments.

In cases like this, the market often over reacts and Afren’s sell-off over the past few days is a great example of this.

Further, Afren’s underlying business is apparently unaffected by the debacle. So is this a great buying opportunity?

Net asset valueoil

Recent declines have sent Afren crashing to a near three-year low, as a result, the company is now trading at a significant discount to its net asset value per share.

Estimates vary, but at present levels the company could be trading around one third below its core net assets value, an impressive discount, and one that may be too good to pass up.

But some City analysts have warned that even this deep discount to net asset value may not be enough. Analysts at Canaccord Genuity have lowered their price target on Afren’s shares to 120p, from 150p, stating that the shares were “not cheap enough”.

Bad news

Nevertheless, this news comes at a bad time for Afren. While some analysts have stated that the news could be a sing of improving corporate governance, a long-term positive for the company, others have picked out falling profits and a lack of information surrounding the scandal.

In particular, some City analysts expect Afren to report gross profit of $247m for the first half of this year, down 34% year on year. Pre-tax profit is also expected to fall 37% to $164m. Afren’s interim results are currently delayed and their release is unlikely to come any time soon.

What’s more, Afren has a number of key assets located within the Kurdistan region of Iraq, a region that during the past few days has seen fierce fighting. There is a risk the region could be overrun by militants, or even flooded.

Unfortunately, there are now just too many variables and uncertainties that could affect Afren’s results and outlook going forward.

What to do?

So what should investors do following this news? Well, there is no doubt that Afren is now a high-risk investment. There is a chance that the company’s shares could fall much further, especially if no information is forthcoming about either the delayed results, or management’s investigation into the unauthorised payments.

Still, Afren's underlying business continues to perform well and the company is currently trading at a discount to net asset value. Afren could be a good bet for investors with a high risk tolerance.

To minimize risk, investors should use a basket approach by building a portfolio with a combination of both risky oil companies and reliable dividend-paying stocks, reducing risk and allowing you to sleep soundly at night.

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Rupert Hargreaves has no position in any shares mentioned. The Motley Fool recommends Afren.