Dragon Oil (DGO)
01/28/2008
Roaring ahead  A lot has been written about the failure of supply to keep up with growing demand in the oil market. This factor is often cited as a solid pillar of support for higher oil prices. At the industry level the challenge remains how to eke out low single digit growth, however at the company level, Dragon Oil (DGO) is having no such problems.
Last week's trading update from Dragon points to solid production growth, with average production up an impressive 56 percent on the prior year to 31,997 barrels of oil per day (bopd). Should oil production continue to grow as anticipated and prices remain firm, then we believe earnings will continue to provide strong support for the shares. And we have good reason for our optimism. 2008 production levels appear in our view to be off to a strong start, benefiting from two rigs, ‘Iran Khazar' and CIS-1, actively drilling in the Cheleken Contract Area (CCA) offshore Turkmenistan. However, there is a third expected to join the search for more oil later this year. The refurbishment of this company owned Rig 40 continues with a series of development wells planned from the Lam 13 platform. Longer term, potential development of the CCA's vast gas resources remains, with high level meetings taking place between the company and the Turkmenistan government. Furthermore, last month Dragon announced an acquisition that diversifies production away from the CCA. With a balance sheet showing over US$300 million in cash and no debt, the acquisition of a 10 percent interest in 3 blocks in Yemen is, in our opinion, a sensible use of its financial firepower. Yemen itself is a country endowed with large energy resources. According to Dragon, there are still over 1 billion barrels of proven oil reserves in the country. We believe this is a good first step for the company and anticipate more deals later this year in line with management's desire to further diversify the production profile. From a valuation perspective, despite the share price run up, we believe the company's prospective price earnings multiple of around 12 times is undemanding. Particularly in the context of the growth potential outlined above. With operations ticking over, the outlook is even brighter given the strength of the oil market. Although prices have dipped since the start of the year, we remain resolutely bullish on the outlook for oil in the year ahead. While this does not mean we will have a repeat of last year's strong percentage gains, we still believe that oil could approach US$120 before the year is out.
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