Zion Oil & Gas (ZN): Cheap Warrants + Minimal Cash + No Revenue=Looming Dilution

by Sonya Colberg, Senior Editor - 7/19/2017 9:39:44 AM

Zion Oil & Gas (ZN) stock is up 200% this year even as the company begins exploratory drilling in an area  riddled with dry holes.

In the wake of failure in a northern Israel project, the company is now moving on to its final exploration prospect located in the Megiddo-Jezreel area near the Sea of Galilee. The company is tackling the expensive new project despite independent engineers' warnings.

TheStreetSweeper presents the top reasons an investment in Zion is exceptionally risky. Meanwhile, investors can read the company’s viewpoint here.

*Dry Holes

Prior to beginning exploratory drilling, the company hired a geoscience firm’s independent assessment of what might be discovered.

But the firm, Forrest A. Garb & Associates Inc. (FGA), offers terrible news. Its experts write:

"Oil and gas exploration wells and water wells have been drilled in an area surrounding the location of the proposed MJ #1 well. The closest of these wells, the Belvoir #1, is approximately 10 miles away to the north. Figure 1 presents the wells in the area which have evidence of oil shows, all of which were dry holes."

Meanwhile, FGA classifies Zion’s prospective resources as high risk and notes that the prospects carry a low level of confidence.

Prospective Resources are exploratory in nature, carrying a high risk factor. It is FGA's opinion that the estimated hydrocarbon volumes studied in this prospect should be classified as Prospective Resources and, as such, carry a low level of confidence.

Investors can read the entire report here. While a “0.9” or “.95” would be certainty, in FGA’s assessment, Zion’s target zones offer only 0.16 or less probability of “geological success” or chance of discovery

(Source: Company SEC filing)

The Dallas company itself states in regulatory filings that it “has no economically recoverable reserves.

If failure awaits the Megiddo-Jezreel well also known as the MJ#1, it wouldn’t be the first time …

*Earlier Exploration Project Plugged

Zion has already endured an oil exploration disaster – with an accompanying stock reaction. After much anticipation in 2011, the company suddenly discovered that there was not much chance a well in northern Israel contained commercially viable hydrocarbons. The stock fell 15% to $4.99 in after-hours trading following the announcement.

At that point, Zion had already spent around $29 million on drilling, logging and other costs. But it had to plug its wells.

Since then, expenses have blasted onward. Losses exceed $154 million and more lie ahead …  

*Pumping Out High Costs

Zion explains that exploration projects “take much longer and cost more in Israel.”

The company website says drilling costs that are $8 million to $10 million in the US “would likely cost twice or three times that much in Israel.”

Let’s take Zion’s estimate. Say their expenses would be double or triple the average $23 per barrel cost of production. That would suggest a cost of $46 to $69 per barrel.

It just wouldn’t make sense for Zion to spend that kind of money if the oil glut continues and the cost of the commodity meets the government’s predictions of $52 per barrel next year.

*Cash On Empty

Zion hadn’t even begun the exploratory drilling of MJ#1 in June when it had to announce painful quarterly numbers.

The company had just $3.86 million in cash and equivalents at the end of March and the cash burn was horrendous.

Zion had inhaled $2.26 million in three months... before the exploratory drilling costs began

Particularly now that the drilling process has begun, Zion’s tank is likely almost on empty.

With no source of revenue and a "current absence of any oil and natural gas reserves and revenues in our license areas,” Zion will have to do what it has always done – take on debt or issue and sell stock.

*Looming Dilution Potential

Already, the company has taken a desperate cash-raising measure through a unit option program designed to raise cash by way of broker-free direct stock purchases by retail investors.

This measure has made available an as-yet undisclosed number of stock warrants ... exercisable for just $1 apiece.  

Those warrants are eligible to come into play in a matter of weeks, on August 14.

The company warns that money-grabbing efforts must continue as always. Additional stock issuance and/or debt convertible to shares could water down other shareholders’ stock.

“We need to raise significant funds to finance the drilling and testing of MJ #1 exploratory well and maintain orderly operations. To date, we have funded our operations through the issuance of our securities and convertible debt. We will need to continue to raise funds through the issuance of equity and/or debt securities (or securities convertible into or exchangeable for equity securities). No assurance can be provided that we will be successful in raising the needed equity on terms favorable to us (or at all).”

Company officers, too, may be itching to cash in before long. Executives and others are holding recently granted, vested options exercisable at 1 cent apiece.

There are 47.84 million shares of Zion outstanding. But, as of March 31, and aside from the just-terminated unit program, 4.39 million options were exercisable at an average rate of just $1.41 per share.

(Source: Company SEC filing)

*Insiders Sell Zion

The people who know the business best are selling their stock. Insiders have made no open market purchases. Instead, insiders sold 147,500 shares in May.

(Source: Nasdaq)

Meanwhile, the company has managed to attract just a pitiful drip of institutional ownership …  4.91%.

(Source: Nasdaq)

*Revolving Door

Meanwhile, executives – who should know Zion inside and out - keep resigning from their positions, even though they’re knocking down $2.5 million compensation as a group.

President and Chief Operating Officer, Glen Perry, resigned in July 2016 (here). CFO Ilan Sheena stepped down the next month and made it official in December.

In September, Dustin Guinn, 40, was appointed President and Chief Operating Officer, after becoming chairman two months earlier. So he’s held the company’s most critical positions for just 10 months to a year.

Mr. Guinn’s management experience is limited to four years with Viking Services and two subsidiaries – the driller that Zion initially contracted with for MJ#1 – the well Zion just began but initially announced an expected spud date of late 2015 to early 2016.

*Lawsuit Investigation

The executive shuffle may be linked to why the company is getting some unwanted attention. Zion is under investigation for possible breach of fiduciary duty. The first such investigation typically spawns a host of others, each with their own set of uncertainties and expenses:

Apr 19, 2017, 11:38 AM

NEW YORK, NY / ACCESSWIRE / April 19, 2017 / Levi & Korsinsky announces it has commenced an investigation of Zion Oil & Gas, Inc. (NASDAQ: ZN) concerning possible breaches of fiduciary duty by the board

*Conclusion: Inconceivable Valuation

So here we have a company that has existed for 17 years and never made a dime.

The company has virtually no cash, scratching along after auditors’ substantial doubts that it can continue operating.

Indeed, this is a company that has plugged all of its exploratory wells in its first licensed property and still has to pay substantial abandonment costs.

“The Company has plugged all of its exploratory wells (in the former Joseph and Asher-Menashe Licenses) but acknowledges its obligation to complete the abandonment of these well sites in accordance with guidance from the Environmental Ministry and local officials.”

Yet Zion is now exploring in a low-confidence area populated by dry holes. Regardless, the company's valuation has blown to an inconceivable $200 million-plus.

Zion’s website urges investors to take this unusual approach:

(Source: Zion website)

But Zion Oil & Gas doesn’t have a prayer of making it, in our view. TheStreetSweeper expects shares will quickly plummet by 75%... and eventually go to zero.

* Important Disclosure: The owners of TheStreetSweeper hold a short position in ZN and stand to profit on any future declines in the stock price.

* Editor's Note: As a matter of policy, TheStreetSweeper prohibits members of its editorial team from taking financial positions in the companies that they cover. To contact Sonya Colberg, the author of this story, please send an email to streetsweepereditor@yahoo.com.




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