Bankers Petroleum

From TD, found on the net.

Bankers Petroleum Ltd.

(BNK-T, BNK-L) C$6.24

Production Below Expectations, But Market Reaction Overdone

Event

On Tuesday, July 5, after the close, Bankers Petroleum Ltd. (BNK-T) released an operations update. This was followed by a conference call this morning.

Impact

Mixed. Overall slightly negative to our prior assumptions.

Details

Operations update: Q2/11 sales averaged 12,152 bbl/d (versus our 13,961bbl/d expectation) with an average realized price of $77.02/bbl, representing 66% of Brent (up from 65% in Q1/11). The miss was partially due to an export shipment of approximately 54 mbbl (600 bbl/d averaged over Q2/11) that was originally scheduled for June 29 being delayed into early Q3/11.

Q2/11 production of 12,973 bbl/d was 1.0 mbbl/d below our expectations, and 1.2 mbbl/d below management's forecast. Current production is 13,150 bbl/d, down from a Q1/11 exit rate of 13,550 bbl/d.

1,750 bbl/d is currently shut-in (60% higher than normal) due to multiple wells waiting on service rigs for workovers. In addition, a few wells are shutin for proximity to new drilling and some wells with high water production are shut-in to free-up water disposal capacity for higher productivity oil wells.

Bankers is currently sourcing additional service rigs and new water disposal wells are being equipped. We expect management will be able to reduce shutin volumes to below 1,000 bbl/d by year-end.

Guidance Reduced: New 2011 exit production guidance of 16-20 mbbl/d is effectively 10% lower than previous guidance for 20 mbbl/d. The adjustment has been made due to slightly lower-than-expected average production from horizontal wells as well as casing issues in existing wells that have been worse than expected. Also, we note that Bankers is carrying out less reactivations than originally budgeted to keep service rigs available for completion and maintenance of new (higher productivity) wells.

Horizontal Drilling Update: During Q2/11, Bankers drilled a total of 19 wells consisting of 18 horizontal wells and one vertical water disposal.

Management has highlighted the first two Gorani horizontals producing 170 bbl/d and 180 bbl/d as validating primary productivity from the Gorani Formation in the northern area of the field. Management intends to further develop this formation with a large number of horizontal wells to access more than 220 mmbbl of oilin-place (OIP) assigned to the Gorani in this part of the field. Only 5% of that OIP had been previously booked as 2P reserves based on the assumption of development by reactivation of existing vertical wells.

However, decline analysis suggests ultimate recovery from horizontal wells may be slightly lower than previously expected (management is suggesting 245 mbbl/well compared to an average of 260 mbbl/well

assumed for 2P reserves). High initial productivity wells are exhibiting 30-50% declines in the first six to

twelve months followed by a leveling off in rate and reduced declines of 10-20% beyond initial decline period.

A fourth drilling rig arrived in Albania in May and spud its first well in June (slightly delayed from a previous

expectation for start-up in May). A fifth drilling rig has been contracted and is expected to be ready for drilling operations in October 2011.

Minor delays to projects: Although progress is being made, first steam injection on the planned thermal pilot

is now scheduled for September 2011 (previously July) and drilling of the first gas exploration well on block F is now expected in the Q4/11 (previously Q3/11). Completion of the pipeline from Patos-Marinza to Fier is progressing with completion expected in September (unchanged).

Outlook

We have reduced our near-term production estimates due to both currently shut-in production and horizontal

well performance trending slightly below our expectations. We see potential for infill drilling currently being

tested to offset the impact of lower recoveries per well. And we see increased potential for reserve additions

from new zones (due to the successful Gorani wells). However, adding more locations to both our Base and

Fully-risked NAVPS cases has only partially offset the negative adjustments (deferring some production for

shut-ins, and assuming slightly more capital required to develop reserves and maintain production).

Valuation

At 0.83x Base NAVPS, Bankers is trading at close to the lowest multiple in our coverage of International E&Ps on that metric (67% discount) and is at a 10% discount on Fully-risked NAVPS. On 2012E EV/DACF, Bankers is trading at a 24% discount to the group.

Justification of Target Price

We are decreasing our target price for Bankers, which is based on a combination of Base and Fully-risked

NAVPS, to C$12.00 (from C$12.50) due to decreases in our NAVPS estimates. The combination of 1.0x Base NAVPS and 0.85x Upside to Base NAVPS is close to the highest multiples in our coverage of International E&Ps, due to what we see as relatively strong management and finances. We currently use a range of 0.6–1.05x in terms of our multiples of Upside to Base NAVPS.

Exhibit 2. Bankers Petrleum: Target Price Calculation

Base NAVPS C$7.48

Multiple 1.00x

Target contribution C$7.48

Fully-risked NAVPS C$12.83

Upside to Base NAVPS C$5.35

Multiple 0.85x

Target contribution C$4.55

Calculated target price C$12.03

Actual target price (rounded) C$12.00

Source: TD Newcrest.

Key Risks to Target Price

Key risks associated with our target price include business risks of the company and industry, including but not limited to: loss of key employees, drilling success, volatile commodity prices, operating costs, capital cost

overruns, product supply and demand, financing/access to capital, government regulations, legislation, royalties, taxes, exchange rates, interest rates, environmental and weather concerns.

The key near-term risks specific to Bankers are:

• Downside risk in a lower heavy oil price environment (we believe that under US$50/bbl, a significant proportion of undeveloped reserves would become uneconomic).

• Availability of processing and export infrastructure, including delays in developing infrastructure, is a considerable risk, and could delay production growth.

• Higher than average geo-political risk.

Investment Conclusion

Overall, we view Bankers' Q2/11 operations update as slightly negative, due to production trending below

expectations, including average horizontal well production. Management has lowered 2011 exit guidance and

indicated minor slippage in the timing of multiple projects. However, the update did provide multiple positives

that include indications that horizontal drilling is continuing to yield results that could boost reserves (as well

as continued improvement in realized pricing).

Adjusting our model for the news has reduced our Fully-risked NAVPS estimate by 4%, which is the main

reason we are lowering our target price to C$12.00 (from C$12.50). We view the initial share price reaction

today (down more than 10%) as likely overdone, and maintain our Action List BUY rating. Key potential

catalysts include expected production growth, gas exploration and a thermal pilot in late 2011, as well as the

next reserves update in March 2012. If market valuation does not improve, we expect potential for a take-out to increase in the near term.