Brewer Dolphin Heritage

8/3/2019 Brewer Dolphin Heritage

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Heritage OilOil & Gas Producers

HOLD

Date 11th November 2011

Share Price: 199.9p

12m Price Target: 213p

Upside: 6%

Fundamental View: Positive

Forecast Sensitivity: 3

Shares in Issue: 259.8m

Market Cap: 519.3mForecast Cash/(Debt): 220.8m

Enterprise Value: 298.5m

Initiation of Coverage A Play on Kurdistan

In terms of catalysts going forward, appraisal and exploration drilling isexpected to continue in Kurdistan but drilling elsewhere is likely to be inH2 2012 so the only real short term driver would appear to becorporate/take over speculation. Progress with the Nabucco pipeline,alliances with other gas players in the area and/or an improving politicalenvironment in Iraq/Kurdistan could act as catalysts and make Heritagemore appealing as a takeover candidate. These are perhaps medium tolong term events on which a potential acquirer may take a view on in theshorter term but this would be pure conjecture. The only other short termdriver we could foresee would be further strategic acquisitions/newcountry entries (given cash resources to utilise). We initiate with a Holdrecommendation and 213p/share PT.Portfolio Overview - Heritage has booked 2P reserves of c. 60 MMbbls inRussia but the current focus is on Kurdistan where it has discovered whatmanagement believe to be the largest gas field in the last 30 years (the originalexpectation was that it was oil). More recently, it has gone into Libya via theacquisition of 51% of Sahara Oil Services which holds permits and licenses toprovide oil field services in Libya. Heritage has also just been awardedadditional acreage in Tanzania via a PSA covering 18,920km (almost theentire Rukwa Rift Basin). It also has exploration acreage elsewhere in Malta,Mali, the DRC, Pakistan and Tanzania.A warrant on Kurdistan Kurdistan is believed to potentially hold over 50 bnboe of oil and gas. With recent drilling success, despite political uncertaintyoverhanging, we believe both drilling and corporate activity will continue at anincreasing rate. From initial in-place estimates provided by HOIL, and applyinga gas recovery factor of 60% and a liquids recovery factory of 30% we

estimate net contingent resources of c. 400 MMboe (95% gas) in its MiranWest (MW) field. We estimate additional prospective resources of 146 MMboeat MW and c. 38 MMboe at Miran East (ME). Whilst Heritage continues tomake all the right noises in regards to development options we believe it islikely gearing up for an asset sale. From HOIL's perspective the optimum timeto divest may be on the back of its Miran West-3 well & further seismicprocessing, i.e. mid-2012. The Nabucco pipeline offers longer term valueupside potential.Financials & NAV - A strong balance sheet with net cash of $468m, anadditional $284m of cash in escrow relating to its Ugandan dispute (which werisk at 50% in our RNAV) and c. $122m on deposit with the URA (BD risked @25%). Our Core NAV (comprising Russia & risked BS items) is 130p/share,including appraisal & development our Total NAV is 206p/share andincorporating risked upside from the exploration portfolio our RNAV is

266p/share. Our PT is set at a P/RNAV of 0.8x = 213p/share.Feasible outcomes We think it is worthwhile to look at how the rating maybehave under various scenarios. Unlike many of its peers, the combination ofa significant net cash position, additional restricted cash and the likelihood ofan asset divestment should provide investors with non-drilling relateddownside risk cushioning. We have a risk-reward spread of -23%-+101% withour base case suggesting only 6% upside (See scenario analysis for moredetail).BD View A relatively attractive risk reward but lacking in ST catalysts. Keyrisks would be political set backs in Kurdistan and/or an unsuccessfulresolution on its Ugandan tax dispute.

0

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Nov-09 Nov-10

A bs olute Relativ e

Source: Datastream

Reuters: HOIL.L

Analysts:

Tracy Mackenzie/Jack Allardyce

0845 213 4220/2067

This document is a Marketing Communicationand has not been prepared in accordance withlegal requirements designed to promote theindependence of investment researchand is notsubject to any prohibition on dealing ahead ofthe dissemination of investment research.Please refer to important disclosures at theend of this document.

Year End Production Sales PBT* EPS PE Ratio EV/EBITDAX FCF P/RNAVDec boepd $m $m p x x p x

2010(A) 542 5.0 -30.5 -10.0 - - -24.3

2011(E) 637 13.2 -18.3 -6.0 - - -23.1 0.8

2012(E) 1,621 29.7 -17.3 -5.7 - - -25.3

2013(E) 2,395 43.9 -21.2 -7.0 - - -75.4

*Figures pre-exceptionals and goodwill amortisation, Fully diluted, Source: Company Accounts/BD Forecasts

Reserves & Production Metrics2010 2P Actual Reserves (WI)Total (MMboe) 60.0

2010 Actual Production (WI)Total (boepd) 542

2011 Forecast Production (WI)Total (boepd) 637

New


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Heritage Oil

NAV Summary & Outcome Scenarios

NAV Summary

Country/Fields Work Net Unrisked Risked Value Unrisked

Int CoS Oil Gas Total NAV NAV NAV NAV NAV NAV

(%) (%) (MMbbl) (bcf) (MMboe) ($m) ($/boe) ($m) ($/boe) (p) (p)

Russia

Zapadno 95% 80% 20.4 0.0 20.4 101.6 5.0 81.2 4.0 16.7 20.8

Total assets 20.4 0.0 20.4 101.6 5.0 81.2 4.0 16.7 16.7

Net (Debt)/cash 2010A 463.9 463.9 95.2 95.2

Cash in Escrow 50% 283.6 141.8 29.1 58.2

URA deposit 25% 121.5 30.4 6.2 24.9

PV of overheads -85.4 -85.4 -17.5 -17.5

CNAV 20.4 885.1 43.3 631.8 4.0 129.7 177.5

Country/Fields Work Net Unrisked Risked Value Unrisked



Russia

Zapadno 95% 25% 40.6 0.0 40.6 201.6 5.0 50.4 1.2 10.3 41.4

Kurdistan

Miran West Cont. (P50) 56% 50% 18.4 2293.7 400.7 644.8 1.6 322.4 0.8 66.2 132.4

A&D Value 59.0 2293.7 441.2 846.4 1.9 372.8 0.8 76.5 173.8

TNAV 79.4 2293.7 461.7 948.0 2.1 1004.6 2.2 206.2 351.3

Well/Prospect Work Net Unrisked Risked Value Unrisked



KurdistanMiran West (P10upside) 56% 25% 8.9 824.9 146.4 201.5 1.4 50.4 0.3 10.3 41.4

Miran East 56% 15% 9.6 167.1 37.5 51.6 1.4 7.7 0.2 1.6 10.6

Malta

Areas 2 & 7 100% 10% 500.0 0.0 500.0 1500.0 3.0 150.0 0.3 30.8 307.9

Tanzania

Kimbiji 70% 10% 35.0 350.0 93.3 466.7 5.0 46.7 0.5 9.6 95.8

Kisangire 55% 10% 27.5 275.0 73.3 366.7 5.0 36.7 0.5 7.5 75.3EMV Value(Exploration) 581.1 1616.9 850.5 2586.4 3.0 291.4 0.3 59.8 531.0

RNAV (TNAV+EMV) 660.4 3910.6 1312.2 3534.3 2.7 1296.1 1.0 266.1 882.3

P/RNAV 0.8 212.9

Source: BD Analysis, Company Data


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Heritage Oil

Scenario Analysis

Scenario Events/AssumptionsImplied %

Bull Case - 403p Bull case with exploration success: as below but HOIL also discover c. 200 MMboe from

its drilling programme pending (ex. Kurdistan).101%

Bull Case (ex expl.) -320p

Bull case excl. exploration success: risks MW cont. res. risked @ 75% CoS & all prosp.resources @ 50%, cash in escrow released, same BD risked value for Russia & riskedNAV of exploration prospects.

60%

Corporate Event - 277p Corporate Event: If we assume a corporate acquirer risks MW cont. res. at a 75% CoS &all prosp. resources @ 50% we get a value of 125p/share (equivalent to $610m or$1.5/boe of cont. resources or $1.0/boe of cont & pros. resources). Expected y/e 2012 netcash plus risking cash in escrow at 50% yields 102p/share. Thus valuing Kurdistan on thebasis of an expected sale & assuming cash in escrow has even odds of being releasedwe would have a valuation of 227p/share. As above this ignores all other balance sheetitems (BD risked: -11p/share), Russian reserves (BD risked: 27p/share) and the balanceof the exploration programme (BD risked: 48p/share).

38%

Base Case - 227p Base case: Work continues but no immediate corporate or drilling catalysts. We set ourPT at a P/RNAV of 0.8x.

13%

Bear Case - 155p Bear case: If we risk Miran West cont. & prosp. resources @ 25% and Miran East at 15%CoS we get a value of 45p/share. Russian 2P reserves aggressively risked. Expected y/e2012 net cash plus risking cash in escrow at 25% yields 102p/share. Thus with anaggressively valued Kurdistan & potential cash value we would have a backstop valuationof 155p/share.

-23%



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Heritage Oil

BD Company Summary

Cheat Sheet



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Heritage Oil

(B) Denotes Brewin Dolphin acts as broker to the company (A) Denotes AIM listing

Brewin Dolphin Research - Recommendation Definition (expects absolute performance over next 12 months).Buy - 20%+ upside to BD 12m Price TargetAdd - 10% - 20% upside to BD 12m Price TargetHold - minus 10% to +10% to BD 12m Price TargetReduce minus 10% to 20% downside to BD 12m Price TargetSell - minus 20% or more downside to BD 12m Price Target

Fundamental View:Positive - quality company, strong management, strong fundamentals, focussed strategy.Neutral - ambivalent over the company's strategy, market place, management.Negative - BD believes company has fundamental flaws and is not a long term investment.

Forecast Sensitivity:1 = highly likely downgrade 2 = likely downgrade 3 = neutral 4 = likely upgrade 5 = highly likelyupgrade

Prices of other securities mentioned: None

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