TLM

Despite a cut in its production guidance, we have upgraded Canadian energy explorer Talisman Energy Inc. (TLM) to Outperform from Neutral, reflecting the company’s high quality asset portfolio and attractive valuation.

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

The company conducts its 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.

As indicated by Talisman’s capital program for 2011, it is looking to move away from dry gas development in North America and concentrate on more oily shale plays.

Additionally, Talisman – which has recently signed two transactions with South African petrochemicals group Sasol Ltd. (SSL) to sell its interests in North American natural gas shale assets – has allocated considerable resources to develop projects in the North Sea and Southeast Asia. We believe the company’s policy shift will lead to a highly visible and cost-effective production-growth profile starting from 2012.

Talisman’s financial flexibility and strong balance sheet are real assets in this highly uncertain period for the economy. At the end of the second quarter of 2011, the company had a cash balance of approximately $860 million. Additionally, with no near-term debt maturities and an undrawn $2.8 billion of credit available through 2012, the company is well equipped to face this environment.

As such, we believe Talisman Energy is favorably positioned to continue accelerating revenue and earnings growth over the next few quarters. Additionally, at current multiples – significantly lower than peers – we see Talisman shares offering significant upside and are confident of its total return potential.

Talisman (NYSE:TLM)
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