Oil production and exploration, a gas development and a hydrocarbon pipeline describes AIM listed PetroLatina Energy’s portfolio, with near-term cash flow expected to provide the means with which to develop multiple prospects. Focused on Colombia, with additional interests in Guatemala, PetroLatina is currently in the final stages of an aggressive 8 well drill programme for calendar 2009, having had its key operating licence extended for the economic life of the fields and securing significant investments from its new largest shareholder, the investment firm Tribeca. As a result, it now looks to have a sound base from which to move forward and an indication of the company’s potential was reflected by Tribeca securing its interest at an average 58% premium to the prevailing share price on transaction completion.

PetroLatina’s asset portfolio includes oil production and exploration assets, a hydrocarbon pipeline and a gas development in Colombia, as well as a 20% free carried interest in two oil prospects in Guatemala. The company is currently generating revenue at an annualised rate of $10 million, but with increased production from its own assets, throughput upside from its pipeline, and recovering oil prices, the company’s cash flow is set to rise substantially during the next 24 months.

Our valuation of PetroLatina is on a sum-of-the-parts basis. Applying a risk weighted approach to its oil equivalent (to include gas interests) portfolio and applying a $70 a barrel in the ground parameter, we derive a value of $62.4 million on the company’s Colombian production and exploration assets. We then add $39.5 million in value attributed to the net present value of the Colombian pipeline and subtract the company’s net debt of $10.7 million, to arrive at an overall valuation of $91.2 million (£57.0 million). While there are evident socio-political risks as a result of PetroLatina’s Colombia-centric operations, in addition to the inherent risks of the oil and gas sector, the upside potential from current levels is significant, and with a target price of 123.4p, our stance with the shares presently trading at 58p, is speculative buy.

Background

PetroLatina was established as Taghmen Energy in July 2004 to acquire and develop oil and gas assets in Latin America. It initially identified Guatemala as a country to build a core business as it was considered an under-explored region with proven oil and gas reserves and a stable political climate.

Through private placements with institutional investors the company raised $21.3 million (net of costs) to fund the acquisition of Mexpetrol S.A. – thereby inheriting its exploration rights under Guatemalan licence 6-93 and related operations in the country. The company subsequently listed on AIM in January 2005 with a four well work programme in place for the 130,186 hectare 6-93 concession and an intention to acquire more acreage in the same region. In September 2005 it announced that it had been awarded licence 7-05 covering the Tortugas/Atzam block in North-West Guatemala, approximately 20 kilometres from the Rubelsanto field from which in excess of 30 million barrels of oil have been recovered.

PetroLatina spent more than two years working in Guatemala, acquiring seismic data, working-over wells on both licences and drilling a new exploration well on its 6-93 licence. However, the outcome was not as the company expected. Faced with technical challenges including discouraging drilling and test results and damage to existing older wells, as well as the local municipality refusing consent for access to the Tortugas area of its A7-2005 licence, the company announced on 21st May 2007 that it had signed a $175,000 four month option contract with a potential local buyer, Quetzal Energy Inc., to sell its Guatemalan assets for $4 million, with it retaining a 20% carried interest in the first three wells to be worked over, and the option to participate, for a 20% cost contribution, in 20% of future exploration on the licence areas. This option was subsequently exercised and the sale completed on 23rd July 2007. With this, PetroLatina was left to focus on an established oil and gas country offering attractive new licence terms as it seeks to encourage the search for new reserves: Colombia.

PetroLatina entered Colombia in early 2006, announcing that it had obtained interests in two exploration licences; Midas and La Paloma. This was swiftly followed by the announcement of a $32 million acquisition of Colombian based producer Petroleos del Norte S.A. on 18th April 2006.

Petroleos del Norte operates three fields in Colombia’s Middle Magdalena Valley, which averaged net production of approximately 261 barrels of oil per day for PetroLatina in 2008. Supplementing this is an interest in gas acreage, Serafin and the ownership and operation of an active pipeline, the Rio Zulia-Ayacucho (RZA).

The acquisition was structured in two tranches. The first instalment of $19 million was paid on 16th June 2006, with the second tranche payable on an extension being granted to the company’s key Tisquirama licence – on which the producing Los Angeles and Santa Lucia fields together with the Serafin gas development lie – from 2009 to 2025, the technical life of the fields. Lengthy negotiations ensued but on 29th November 2007 PetroLatina announced it had secured the extension to the licence – though on less beneficial terms than those specified in the sale and purchase agreement with Petroleos del Norte. As a result the second instalment payment was reduced to $7 million in cash and $3 million in new PetroLatina shares.

Having secured the licence extension the company set about securing financing for drilling and development work. On 25th April 2008 it announced an agreement with Colombian private equity firm Tribecapital Partners S.A. under which a portfolio investment company of Tribecapital, Tribeca Oil and Gas Inc., has invested $25 million in PetroLatina. Pursuant to its investment, Tribeca was allotted 15,360,999 new shares in PetroLatina, representing a 35% interest in the company, and 1,875,260 warrants which are automatically exercisable, for no additional consideration, if, and to the extent that, any exercise of PetroLatina’s other existing outstanding 3,440,000 warrants occurs. The transaction represented an investment at 83p per share on an issued share basis and 73p per share on a fully diluted basis.

However, with a large part of this investment settling debt and outstanding liabilities – such as the second Petroleos del Norte payment, PetroLatina emphasised it would require further funds to be able to maintain its drilling momentum and complete its planned work programme. On 21st January 2009 it announced that “whilst preliminary discussions with a number of potential third party finance providers have been positive, negotiating suitable debt facilities has proved difficult in light of the recent turmoil in global financial markets”. However, whilst continuing to seek appropriate long-term debt facilities and evaluate funding options, the company was again able to call on the support of Tribeca; announcing that a subsidiary of the company had subscribed for $4.875 million of secured convertible loan notes in January 2009, and a further $6.29 million of notes in July 2009. The notes yield 12% (payable in cash or shares at PetroLatina’s option), with the first tranche maturing on 21st January 2011 and the second tranche on their second anniversary. The first tranche are convertible at 20.9375p, whilst the second tranche have a conversion price of 25p.

Operations

Production

The acquisition of Petroleos del Norte provided PetroLatina with production from the Los Angeles, Santa Lucia and Dona Maria fields in the Middle Magdalena Valley, Colombia.

Los Angeles Well, source: www.petrolatinaenergy.com

On PetroLatina’s acquisition of Petroleos del Norte, the Los Angeles and Santa Lucia fields on the Tisquirama licence were producing at an average of 700 and 329 barrels of oil per day – with Petroleos holding respective 50% and 25% working interests. However, as part of the Tisquirama licence extension, 20% of PetroLatina’s stake in each of the fields was ceded; meaning the company currently holds a 40% interest in Los Angeles and 20% in Santa Lucia. The Dona Maria field is a small accumulation on the Lebrija licence in which PetroLatina retains Petroleos del Norte’s 100% interest.

These fields have suffered from a lack of investment in the past but in accordance with the Tisquirama licence extension a development programme was agreed. At Los Angeles, using reprocessed 3D seismic data, locations for four wells have been identified – with the company announcing on 28th April 2009 positive results from the drilling of a development well Los-Angeles 11. In addition to providing production from established sands, this also produced oil from a deeper zone which had been seen in previous wells but not tested. Overall, the thickness of net pay was greater than that encountered in the offset wells (which is anticipated to result in an upgrade in the estimated recoverable oil reserves for the field in due course) and the well produced at a higher rate than was expected pre-drilling (it has been placed on production at a rate of 220 bopd (barrels of oil per day) whereas other nearby wells in the area currently produce in the range of 60 – 100 barrels of oil per day). A significant drilling cost reduction was achieved at Los-Angeles 11 relative to budget and costs being experienced as recently as one year ago. This is expected to materially improve the field development economics.

Subsequent to the completion of relevant operations at Los-Angeles 11, the drilling rig was transported to another drill location (Los-Angeles 12) and a service rig moved in to conduct testing operations and put the well on production. Los-Angeles 12 had drilled, initial producing 80 bbl of oil of 26 grades API from Umir Formation, but flow rates should increase after the Latco 2 service rig performs a frac job. A drilling and production update on the 17th of December 2009 confirmed that a total of 8 successful wells have been drilled by PetroLatina during 2009 with the current net production rate of 1,004 bopd (2,162 bopd gross) a significant improvement over 2008’s equivalent net figure of 280 bopd (787 bopd gross).

PetroLatina’s reserves are audited annually by independent petroleum consultancy firm, Ryder Scott Company L.P. On the 8th of February 2010 Ryder Scott reported that PetroLatina’s Colombian reserves were as follows up to the 30th of November 2009.

Reserve Category	Oil (mmbbl)	Gas (bcf)	Total (boe)	1P (boe)	2P (boe)	3P (boe)
Proven	3.36	1.15	3.55	3.55
Probable	2.54		2.54		6.09
Possible	5.32		5.32			11.40

Exploration

The award of interests in the Midas and La Paloma exploration licences marked PetroLatina’s shift of focus to Colombia. On 15th February 2006 the company revealed its move into the country with the announcement that it had obtained a 70% interest in, and would operate, an exploration licence covering a block in the Middle Magdalena Valley Basin, adjacent to producing fields – Midas. This was swiftly followed on the 20th of February 2006 with the announcement that the company had agreed terms to acquire a 65% interest in, though not be operator for, an additional licence in the Middle Magdalena Valley Basin – La Paloma. PetroLatina has subsequently successfully negotiated a reduction in the carried interests of the local partners in both blocks, resulting in it now holding a working interest of 85% and 82.59% in the Midas and La Paloma blocks respectively.

The initial work programme for Midas covers a six year time frame and PetroLatina has estimated, based on identified leads, that the block has the potential for recoverable resources of up to 8.0 million (6.4million net to the company) barrels of oil. At La Paloma the work programme is for an initial four years. PetroLatina has estimated that that licence have a potential in the leads for up to 16 million barrels of recoverable resources (12.8 million barrels net), but conservative estimates have been included in the reserve table above.

Following the acquisition of 47 square kilometres of new 3D seismic over the Midas field and 54 square kilometres over the La Paloma block, PetroLatina commenced the drilling of a first exploratory well, Colon-1, at La Paloma on the 24th of November 2008. Colon-1 has since been put on production and is producing at a steady rate of 400 bopd. Colon-2, located 450 metres to the North of Colon-1, was recently drilled to a total depth of 9,300 feet, logged and cased. The well has 34 feet of net oil pay, with a further 15 feet to be confirmed with testing,

Meanwhile, at the Midas block, PetroLatina completed the drilling, logging and casing of the Chuira-1 exploration well to a total depth of 8,315 feet. Encountering 2 net pay sections of 34 feet from 7,942 feet in depth and 46 feet from 8,144 feet in depth, total production to date has been 2362 barrels of oil, with an initial natural flow rate of 180 bopd since dropping to 40 bopd. The company is currently investigating whether reservoir stimulation would be worthwhile as well as the installation of a downhole pump to increase production. Most recently, the Zoe-1 well reached a total depth of 10,924 feet, identifying two potential oil bearing sections for further analysis. Log analysis of the Lisama formation indicated a net oil pay section of 47 feet from 8,632 feet in depth, while testing on the 15th of January 2010 produced a stable flow of 42 barrels of oil at a medium gravity of 23 degrees API on the secondary Umir section. Testing of Umir will continue until the end of February whereupon a service rig will take over testing of the primary Lisama formation. Results from Zoe-1 were not included in the reserve statement issued on the 8th of February 2010.

On 7th January 2009, the company announced it had successfully bid for the exploration block Putumayo-4, a 51,333 hectare area in the Putumayo Basin of Southern Colombia. From over 400km of pre-existing 2D seismic data, PetroLatina has already identified promising leads and notes the exploration block lies in what is rapidly revealing itself as a prolific hydrocarbon region. Putumayo-4 is currently in the planning and programme design stage for seismic acquisition. The company also revealed that it had entered into a memorandum of understanding for a proposed farm-out agreement for the project with La Cortez Energy Inc., an early stage oil and gas exploration and production company. This will see La Cortez assume two-thirds of the cost of the first seismic campaign, which will be reimbursed in full by PetroLatina should the initial exploratory well prove to be a producing well. La Cortez will also be entitled to a 50% net working interest in the Putumayo-4 block.

Serafin Gas Development

Also on the Tisquirama licence, and located to the North of the Los Angeles field, is the 50% owned Serafin gas development. Colombia’s national oil company Ecopetrol has the right to participate in, and pay pro-rata costs of, 50% of the licence, thus the potential exists for PetroLatina’s interest to fall to 25%. On the 21st of January 2007 the company initiated re-entry operations on Serafin Well #1; a discovery drilled by Texas Petroleum in 1991 which recorded significant gas flows but was abandoned due to a lack of a gas infrastructure and low local gas prices at that time making it uneconomic. The results confirmed the company’s initial positive evaluation of the gas reservoir, with the well testing at flow rates of 14 million cubic feet of gas per day and proven reserves estimated at 5 bcf (billion standard cubic feet of gas) in place. As a result, construction of a 3.0 kilometre trunk pipeline has been completed which ties the well into an established gas pipeline network. The company is currently in the construction stage, with completion and resulting production expected in the second quarter of 2010. The project offers strong short term cash flow and economic returns, with a projected pay back of less than three months. With this, the company is also currently conducting studies aimed at identifying further drillable prospects in the near vicinity.

Rio Zulia-Ayacucho Pipeline

The Petroleos del Norte acquisition also brought the Rio Zulia-Ayacucho pipeline into the group. The 100% owned pipeline runs from the prolific Catatumbo Basin in East-Central Colombia to Ayacucho, one of the country's main hubs for both oil and natural gas pipelines. The pipeline stretches for approximately 180 kilometres and has a throughput capacity of 25,000 bopd.

Rio Zulia-Ayacucho pipeline map, source: PetroLatina company presentation

During the first half of 2009 an average throughput of 3,669 barrels of oil per day was achieved from the Tibú and Río Zulia fields, but exploitation and exploration activities in the area should increase this figure significantly.

In the longer term, with Ecopetrol and Brazil’s Petrobras set to invest a total of $175 million to develop the Tibú field, future production from the Río Zulia field is expected to rise to 15,000 barrels of oil per day (with reserves at the Rio Zulia field estimated to potentially increase to 100 million barrels). Ecopetrol has also commenced an extended exploratory drilling programme near the Río Zulia field, so with the favourable location of the Rio Zulia-Ayacucho pipeline, PetroLatina should see a significant increase in the flow of oil through its pipeline.

Guatemala

PetroLatina no longer operates in Guatemala following the sale of its assets in the country in 2007. However, the terms of that transaction see it retain a 20% carried interest in the first three wells to be worked over, as well as providing an option to participate, for a 20% cost contribution, in 20% of future exploration on its previous licence areas. PetroLatina recently declined to participate in the drilling of the ATZAM-3 well as it didn’t provide evidence to warrant its involvement. However, the company remains interested in involving itself in future wells.

Strategy

PetroLatina’s strategy is to rapidly develop and commercialise its previously under-exploited oil and gas assets through an intensive drilling programme, and to this end it is three quarters of the way through its planned 8 well drill programme for calendar 2009.

A key part of the forward strategy is to utilise the cash flow from production and from its pipeline asset to advance selected exploration and development activity. The company will also consider new exploration areas and may seek partners, as it as done in respect to the Putumayo-4 block, where it considers this advantageous to shareholders – such as in enabling potential value to be realised more quickly and/or reducing risk.

PetroLatina’s focus will remain in Latin America, and Colombia in particular, for the foreseeable future; reflecting the continent’s and country’s hydrocarbon potential, as well as Colombia’s relatively attractive licensing terms. The team now managing the company has a wide experience of operating in the country, thus reducing the risks and improving the chance of success.

SWOT Analysis

Strengths:

Production base and Tribeca backing – The acquisition of Petroleos del Norte has provided PetroLatina with a production base and developing cash flows from this, together with Tribeca’s funding, enabling the company to advance aggressive exploration and development plans despite the recent recessive economic environment.

Prospectivity of exploration projects – PetroLatina’s exploration concessions are located in highly prospective areas, including multiple already-producing fields.

Infrastructure – The acquisition of Petroleos del Norte brought not only assets located close to PetroLatina’s other acreage in the Middle Magdalena Valley, but also immediate infrastructure – including the Rio Zulia–Ayacucho pipeline – and a strong, local management and technical team to exploit the enlarged company’s interests. With this infrastructure and the common location of licences, PetroLatina expects to be able to advance field work very efficiently. Additionally, the expertise of Petroleos del Norte’s staff provides PetroLatina with a sound platform on which to further expand its Colombian operations.

Weaknesses:

Reliance on Colombian operating environment – Although it has legacy interests in Guatemala, PetroLatina operates on the ground solely in Colombia. While the leadership of this country is currently supportive of companies in the search for new reserves, there can be no guarantee that this policy will not change in the future. However, it should also be noted that PetroLatina’s management team has decades of operating experience in the area.

Requirement for funding – On announcing Tribeca’s most recent investment on 21st January 2009 PetroLatina noted it still required further additional financing to be able to complete its entire planned work programme. In the current economic environment, fear in this regard could well hold the shares back, with the company stating: “whilst preliminary discussions with a number of potential third party finance providers have been positive, negotiating suitable debt facilities has proved difficult in light of the recent turmoil in global financial markets”. However, the material revenue already being generated together with the support shown thus far by Tribeca and the presence of Luc Gerard and Ciro Méndez on the PetroLatina board provide significant reassurance.

Opportunities:

Development of currently-producing fields – Having suffered from a lack of investment in the past, the fields yielding PetroLatina’s production are now subject to an extensive development programme with the potential to add significant value, as current work at Los Angeles looks to be demonstrating. Additionally, Serafin Well #1 offers near-term revenue potential.

Exploration success – As per its currently producing fields, PetroLatina’s exploration acreage also looks to offer significant value-adding potential. In particular, the first exploratory well to be drilled at La Paloma, Colon-1 has been put on production, while Colon-2 is also looking like offering production options.

Increasing pipeline throughput – Our valuation assumes a ramp up of Rio Zulia-Ayacucho pipeline throughput to 15,000 bopd, but with a capacity of 25,000 bopd, and the intensive activity in area the pipeline serves, our assumption could well prove conservative.

Acquisition of further licences – PetroLatina is likely to examine new exploration areas in Colombia with the awarding of further prospective licences a clear opportunity.

Threats:

Exploration and development risk – As PetroLatina’s experience in Guatemala demonstrated, the exploration and development of natural resources is inherently speculative. Exploration results frequently prove different from expected and there is no certainty that any discovery can be commercialised. While experience, knowledge and planning can mitigate this risk somewhat, recoverable reserve estimates are just that, and can only be booked when the resource is extracted.

Country risk – While Colombia and Guatemala are highly prospective hydrocarbon countries, both carry relatively high levels of country risk. With strains of discontent remaining in both, PetroLatina could be adversely affected by social, political or economic instability. This is most evident with regards to the RZA pipeline (which is insured), where a nearby government-owned pipeline has frequently been targeted by terrorists. The company also experienced the frustrations of having the local municipality decline its application for the Tortugas area, after gaining approvals from all higher Guatemalan government offices.

Commodity risk – With PetroLatina a producer, explorer and developer of oil and gas assets it is exposed to both current and future market prices. Although the recent economic turmoil has impacted the demand-side with resultant price decreases, prices have since recovered from recent lows. We believe that continuing supply-side risks, including production from unstable jurisdictions and forces of nature, together with the global economic recovery, will send prices higher and we expect a medium-term average oil price in the $60 – $80 per barrel range. However, one benefit of lower prices has been that drilling costs have been significantly lower than those being experienced as recently as one year ago.

Financial risk – With PetroLatina requiring additional financing to be able to complete its entire planned work programme, there is evident financial risk, particularly in the current economic climate where new financing remains difficult to raise – especially for smaller companies. Where such funds are now being raised, burdensome interest costs and/or significant equity dilution are commonplace. Mitigating this for PetroLatina is that the company is already generating revenue and has the support of Tribeca and the presence of financiers Luc Gerard and Ciro Méndez on the company’s board.

Growth risk – PetroLatina’s strategy will inevitably involve the acquisition of new exploration licences, but this may be hindered by the continuing competitiveness of the oil and gas industry which often sees numerous participants, many with significantly greater resources than PetroLatina, seeking licences and properties.

Litigation – PetroLatina is presently involved in a number of litigation cases. The most significant concern the company’s interest in Petroleos del Norte and a pumping station where a storm destroyed the plaintiffs’ equipment and injured employees. PetroLatina acquired a controlling interest of 77.76% of the issued and outstanding share capital of Petroleos del Norte on 16th June 2006. The remaining 22.24% of the issued and outstanding shares are held in a trust in Colombia, with their release subject to the resolution of pending litigation. Based on the advice of counsel in Colombia, PetroLatina believes that the litigation will ultimately result in the shares held in trust being returned for cancellation, though this outcome can clearly not be guaranteed. The case regarding the pumping station involves proceedings against Petroleos del Norte and Ecopetrol, with the plaintiffs seeking indemnification for damages suffered in May 2003. Again the company’s counsel believes the case is likely to be decided in its favour.

Management / Directors

Executive Chairman, Luc Gerard – With experience from Philip Morris, Caterpillar, Merrill Lynch and ING, Gerard founded Tribeca in 2006 as Colombia's first private equity fund and is currently its President. He is highly respected within Colombia's business community having held various general management, merger and acquisition, business development and strategic planning positions in Colombia, other Latin American countries, the United States and Europe. A graduate of the ICHEC, Brussels Business School in Belgium, Gerard also holds a Masters Degree in Business Administration from IMD in Lausanne, Switzerland.

Chief Executive Officer, Juan Carlos Rodriguez – Formerly President of PetroLatina’s Colombian subsidiary Petroleos del Norte S.A. for several years, Juan Carlos is an experienced oil and gas operator holding strong relationships with Ecopetrol and the Colombian National Hydrocarbon Agency. He holds a MBA from the University of Illinois.

Executive Director, Ciro Méndez – An investment manager at Tribeca having joined in 2007, Méndez has experience from KPMG as a senior supervisor in their corporate finance department in Colombia, the Colombian Department of National Planning as a financial analyst, Genispace Inc. in New York as a corporate finance associate and Insercams Ltda., Colombia as a strategic planning manager. A graduate of the Universidad de Los Andes, Bogotá, Méndez also holds a Masters Degree in Business Administration from Columbia Business School in New York.

Non-executive Director, Menno Wiebe – With 36 years of energy industry experience as a geologist, manager and executive in international exploration and development projects in Latin America, Asia and the North Sea, Wiebe joined PetroLatina on 6th August 2008. In particular as the owner of private consultancy firm Jacobean Resources, Wiebe has conducted exploration and development evaluations in Yemen, Paraguay, the UK and Colombia. A member of the American Association of Petroleum Geologists for more than 25 years, Wiebe has also been a member of the Geological Society for more than 5 years.

Non-executive Director, John May - The full-time UK resident on the board, May is also financial director of fellow AIM-listed TomCo Energy and has served previously as finance director of London & Boston Investments Plc and as a non-executive director of Croma Group Plc. He is also a principal of a boutique chartered accountancy practice, focusing on advising companies on finance raising, mergers and acquisitions, strategy and entry onto the AIM and PLUS markets. May qualified as a chartered accountant in 1974 and was a senior partner for 17 years at accountancy firm Horwath Clark Whitehill, including 8 years on the managing board.

Shareholders

PetroLatina currently has 46,165,803 shares in issue. Additionally, there are 5,357,885 options and warrants outstanding. Those holding 3% or more of the current issued share capital are:

Shareholder	Shares	Shares (%)
Tribeca Oil and Gas Inc.	17,638,233	38.2%
Roy Nominees Limited	5,275,000	11.4%
Rorick Ventures Group / Lyan Financial Corporation / Juan Carlos Rodriguez	3,784,872	8.2%
Taghmen Ventures Ltd / Greg Smith*	2,430,000	5.3%
Macquarie Bank Limited	1,494,817	3.3%

Notes:
* Greg Smith founded PetroLatina and is the former Executive Chairman of the company.

Recent Results

PetroLatina’s most recent results were for the six months ended 30th June 2009, which were released on 30th September 2009.

Operationally the company saw average total production increase to 902 bopd, up 222% from the equivalent figure in the 6 months to 30th June 2008 (since updated to 1,004 bopd on the 17th of December). The drilling of Colon-1, La Paloma’s first exploration well, proved a success producing 55,931 barrels of oil in the 95 days to 31st August 2009. PetroLatina is remapping and delineating the field’s size based on these well results and a recent 3D seismic survey. At Tisquirama, three successful development wells were drilled, two of which – Los Angeles-11 and Los Angeles-14 – were subsequently brought into production and produced 23,539 and 14,705 barrels of oil (gross) up until the 31st of August 2009. Fraccing at the Los Angeles-12 exploration well was partially successful, with production temporarily boosted to 120 bopd (barrels of oil per day), before returning to its previous rate of 57 bopd. Two more wells were drilled in the Los Ángeles field in late 2009 with excellent quality sands found – Los Angeles 15 had 151 pay and Los Angeles 16 had 160 pay. These two wells have subsequently added 112 bopd net (350 bopd gross) to the company’s production.

Finally, average throughput on the Rio Zulia-Ayacucho (RZA) pipeline increased by 17% to 3,669 bopd from 3,134 in 2008.

Post period end, PetroLatina logged and tested the Midas block’s first exploration well (Chuira-1) with production temporarily constrained to 40 bopd as a workover removes the restriction. Development well Colon-2 at La Paloma was completed and is testing at an average of 664 bopd. Two further development wells at Los Angeles are planned for later this year, while another exploration well at each of La Paloma and Midas will also be drilled before the start of 2010. Seismic acquisition plans are underway at Putumayo-4 (in the Putumayo Basin of Columbia), the Serafin gas project is predicted for production in the second quarter of 2010, while the results from an updated independent reserves report are expected before the end of the year.

Financially, revenues were all but identical to the previous years’ figure of $4.5 million, as a 54% lower average WTI oil price ($51.25 per barrel vs $110.96) offset the 222% increase in production. However, reduced costs of sale, administrative expenses and finance expenses were responsible for PetroLatina reporting its maiden interim pre-tax profit of $99,000 (loss of $408,000 in 2008). Consequently, earnings per share turned positive at 0.4 cents, from a loss of 1.6 cents per share in 2008. Despite the company’s cash position increasing from $1.9 million at 30th June 2008 to $4.2 million at 30th June 2009, net debt increased from $9.0 million in 2008 to $10.7 million in 2009, as $11.2 million in convertible loan notes were secured from TOGF (Tribeca Oil and Gas Financing Inc), with $4.9 million currently drawn down.

Valuation

We have valued PetroLatina on a sum-of-the-parts basis with contributions from its Columbian production and exploration assets and the RZA pipeline. Taking management’s estimates of the reserves net to the company from the Los Angeles, Santa Lucia, Dona Maria and La Paloma fields, we have discounted for the different reserve classifications (10% on Proven reserves, 50% on Probable reserves and 90% on Possible reserves) and, using an oil price of $70 per barrel, attributed a 15% valuation to the oil in the ground. The lower quality and heaviness of PetroLatina’s oil means its sells at a discount to the benchmark West Texas Intermediate and thus constrains our valuation price. The indicative value for the company’s production assets is $52.5 million.

At the Serafin gas project we have applied an in-situ value of 15% to the company’s 5 bcf of estimated gas reserves and, using a gas price of $5 per mcf (thousand cubic feet), calculated a value of $1.88 million on the 50% owned asset.

For PetroLatina’s Midas exploration asset, we have applied a 99% risk weighting to its in-house estimate of 76.5 million barrels net to the company. Again, using a price of $70 a barrel in the ground and an in-situ attribution of 15% we arrive at an $8.0 million valuation.

Whilst the Putumayo-4 exploration block and legacy Guatemalan operations also look to have potential, we presently attribute no value, reflecting the early stage of the former and past problems with the latter.

Moving onto the company’s Rio Zulia-Ayacucho pipeline, we believe the intense exploitation and exploration activity in areas served by the pipeline will see throughput grow to an average of 15,000 bopd in 2012, with the intermediate steps of 6,000 bopd in 2010 and 10,000 bopd in 2011. Based on current contractual terms of $2.40 per barrel of oil transported, revenues should grow from $3 million in 2009 to $13 million from 2012 onwards. With variable costs immaterial, fixed costs have been assume flat at the current level of $1.5 million per annum. Thus with returns highly operationally geared we have assumed cash flows rise from $1.5 million in 2009 to 11.4 million from 2012 onwards which, using a 10% per annum discount rate, and 50% risk weighting, produces a valuation of $39.5 million. We regard this as conservative due to terrorist attacks having previously been focused on government-owned operations and the pipeline having the potential to carry 25,000 bopd.

Summing these components and subtracting the company’s $10.7 million net debt, produces a valuation of $91.2 million or £57.0 million at a USD/GBP exchange rate of $1.6. With 46.2 million shares in issue our valuation suggests a target price of 123.4p per share, representing a significant premium to current share price levels. Material upside to our model comes from the expected increase in reserves across its portfolio, an accelerated throughput on the RZA pipeline and of course higher oil prices.

There are evident socio-political risks as a result of PetroLatina’s Colombia-centric operations in addition to the inherent risks of the oil and gas sector. However, with an update to the company’s reserve estimates expected before the end of the year providing an obvious time for the market to re-rate the stock, we initiate coverage of PetroLatina with a target price of 123.4p and speculative buy recommendation.

Forecast Table Year to 31st Dec Sales ($ Million) Pre-tax Profit ($ Million) Earnings Per Share ($) Price Earnings Ratio Dividend Per Share (cents) Dividend Yield (%) 2007A 7.1 (8.4) (0.35) NA 0 0.0 2008A 7.8 (4.0) (0.12) NA 0 0.0 2009E 14.6 6.5 0.10 9.3 0 0.0 2010E 55.0 16.0 0.26 3.6 0 0.0