The prospects for oil and gas companies such as Shell (LSE: RDSB) seem to be improving. Reductions in the global supply of oil could have a positive impact on oil prices. And with demand for gas likely to rise over the coming years as the world seeks relatively cleaner fuels, its outlook remains upbeat. However, many investors would argue that Shell is now too large and offers growth prospects which are too low. As such, they may feel that investing in a smaller oil and gas company may be a better move.
Reporting on Thursday was oil and gas company Ophir Energy (LSE: OPHR). It has sought to change its strategy in 2016, with it focusing its activities around net asset value per share. This means that its aim is much simpler than in the past, with the company aiming to find or develop hydrocarbons at the lowest cost. It then seeks to monetise them promptly, which maximises the margin realised for its shareholders.
The company appears to have the financial means to deliver improving financial performance. It has net cash on its balance sheet of $160m and was able to achieve a further 35% reduction in G&A costs in 2016. This shows that it is becoming a more efficient business which could develop its asset base at a relatively fast pace.
In terms of that asset base, it remains relatively diversified. This reduces the company’s overall risk, which means its shares could be deserving of a higher valuation in future. And with 2017 set to deliver significant milestones such as a green light for its Fortuna prospect as well as the potential to monetise its Asian assets, the company’s outlook appears to be positive.
While Ophir has significant future growth potential, it is expected to remain lossmaking over the next two years. At a time when the outlook for the oil and gas industry is uncertain, its shares may offer a higher risk profile than sector peers such as Shell. Certainly, if supply cuts are renewed by OPEC then the oil price could move higher and boost sector-wide profitability. But since there is no guarantee of a rising price for black gold or for gas, it may be prudent for investors to stick to safer companies such as Shell.
While it may not have the growth potential of Ophir, the integration of BG is expected to deliver rapid improvements to Shell’s cash flow. This could result in higher shareholder payouts as well as improved investor sentiment. Furthermore, it is cutting costs, reducing capex and making disposals. All of these measures could improve efficiency and profitability in future years.
Therefore, while Ophir has the potential to grow its asset base in order to become a larger oil and gas stock such as Shell, at the present time it seems logical to invest in the real thing. Therefore, Shell continues to offer a more enticing risk/reward ratio than Ophir.
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Peter Stephens owns shares of Royal Dutch Shell B. The Motley Fool UK has recommended Royal Dutch Shell B. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.