TLM

We have upgraded Canadian energy explorer Talisman Energy Inc. (TLM) to Neutral from Underperform, reflecting the company’s portfolio repositioning initiatives.

Calgary, Alberta-based Talisman is a major independent oil and gas exploration and production (E&P) company, with operations in North America (primarily Canada) and several international regions.

The company conducts operations in five principal geographic segments: North America (Canada/U.S.), the U.K. (U.K. and the Netherlands), Scandinavia (Norway and Denmark), Southeast Asia (Indonesia, Malaysia, Vietnam and Australia), and Other (North Africa and Trinidad and Tobago).

We like Talisman Energy for its solid base business in Western Canada and in the U.K. North Sea, while offering exposure to some of the most prospective unconventional plays in North America and high-impact exploration prospects worldwide. The company’s major position in the prolific Marcellus Shale play in western Pennsylvania and the nascent Montney formation in northeastern British Columbia and northwestern Alberta provides a highly visible and cost-effective production-growth profile.

Taking a cautious view of gas prices, Talisman’s capital program specifically focuses on the promising North American liquids-rich areas, which is a major shift away from dry natural gas development. The company plans to trim its current year capital expenditure by 11% from 2011 levels, while still managing an up to 5% improvement in its production.

Talisman has lately signed two transactions with South African petrochemicals group Sasol Ltd. (SSL) to sell its natural gas interests in North American shale assets, as the company looks to concentrate on more oily shale plays.

While subscribing to management’s outlook, we believe the realignment of Talisman will take some time to bear results. Questions about the company’s sustainable operational efficiency and execution abilities also remain a key problem area, in our view. In particular, with core operations in the North Sea, Talisman has been adversely affected by last year’s tax hike in the region, along with maintenance/production issues that have created investor concerns.

As such, we expect Talisman’s growth potential to be restrained with little room for meaningful upside from current levels.

 
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