Woodside has fantastic assets, first class management and a market capitalisation that has risen 36,000 times since listing in 1954. But what’s it really worth today? And does the current share price accurately reflect, understate or overestimate its true future value?

At a current share price of around $49, Woodside has a market capitalisation of almost $35.1 billion. Adding net debt of $6.1 billion leads us at an enterprise value (EV) of $41.2 billion.

So, if you’re buying (or holding) Woodside shares at a price of $49 each, you’re betting that this business will justify a price tag of at least $41 billion over the coming years. How realistic is that?

Woodside is backed by ‘‘proved and probable’’ (or ‘‘2P’’) reserves of 1.7 billion barrels of oil equivalent (boe), with current production of 81.3 mmboe per year (million barrels of oil equivalent). With oil from Pluto - a massive field discovered offshore Western Australia in 2005 - due to flow in 2011, company production will climb markedly.

The industry standard valuation measure is EV/2P (enterprise value divided by proved and probable reserves). For Woodside this works out to $24 per boe, a high figure compared to other large companies such as Santos. And while Woodside will almost certainly be able to grow production at a faster rate than Santos, that growth comes at a price.

Woodside shares trade on a current price-to-earnings ratio of 20 (though price-to-earnings ratios can prove problematic for resources companies). That high-looking figure is set to fall with the boost to profits provided by the start of production from Pluto.

Woodside has made no secret of its desire to add another LNG train, and perhaps more, to the development of the Pluto project, making it even more attractive. The problem is that Woodside has not yet proven that Pluto contains enough resources to run a second train, let alone more. It has begun a near-field exploration program to find more gas to power its ambitions, but to date it has not been successful.

So in the short term, exploration will have a large bearing on the share price. Longer term, however, we believe the second train will go ahead with the possibility that Woodside could process another company’s gas to help the economics along.

The Pluto project highlights one of the key risks facing Woodside; the large capital expenditure its projects require. Previous cost estimates for the single train for Pluto were $12 billion, a figure which blew out this month by an estimated 6-10 per cent.

The second train is expected to cost an additional $10 billion. Beyond this, new projects such as Browse, Sunrise and commitments in the Gulf of Mexico will demand further tens of billions. So, where will all this money come from?

Woodside has debt and cash in place to be able to finalise the first Pluto train. The fact that it recently raised $700 million in a bond issue and sold its Otway gas interests in the same week suggests that management is actively seeking funding for the second train, with a decision due at the end of 2010.

There are three funding options. It can raise more debt, issue shares, or sell assets. As the company already has a debt-to-equity ratio of 67 per cent, the chances of a future equity raising or more asset sales are high.

The enormous capital expenditure program represents a risk but, at the end of it all, Woodside would have achieved the oil and gas trifecta; low cost, long life and large scale resources. The assets developed will provide cash for decades to come so there’s a path to profit at the end of the capital expenditure tunnel.

Its ambitions with Pluto and other large projects, however, leave a big funding hole that will need to be plugged. That uncertainty is not necessarily reflected in the share price and while our team is actively monitoring Woodside for an attractive entry point, we don’t think one exists just yet.

This article contains general advice only (under AFSL 282288).

Greg Hoffman is research director of The Intelligent Investor which provides independent advice to sharemarket investors. BusinessDay readers can enjoy a free trial offer at The Intelligent Investor website.

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