Cardinal Energy Ltd (Alberta) T.CJ

RBC -Whoa Nellie! They like Mitsue. Maintain $11 target

[Naka2112]

May 5, 2017

Cardinal Energy Ltd. Q1/17 - Whoa, Nellie!

Our view: Initial rates from one of three play concepts at Mitsue far exceed our type curve assumptions potentially adding a strong second play to Cardinal's hopper. It's early days, but we think Mitsue holds potential to drive top-decile capital efficiencies, netback expansion, and +10% per share growth.

Key points:

• Soft quarter. Cardinal's Q1/17 volumes of 15,168 boe/d compared to our 15,100 boe/d target, while CFPS of $0.19 was below RBC and Street of $0.24/$0.25, mainly due to lower realized pricing. Operating costs were $22.96/ boe vs our $22.50/ boe target, as increased workovers spilled into Q1. E&D capex of $21.4 million tracked above our $15.7 million on accelerated activity to build cushion ahead of a tight service market. Current production volumes of 17,000 boe/d match our full year production outlook.

• Bantry development can deliver solid 8% growth at strip. Our existing 2018 outlook of 18,300 boe/d assumes a 12% decline and $20,000 per flowing boe capital efficiency for Bantry Glauc drilling reflecting cost escalation consistent with our oil price outlook. Based on these inputs, we think Cardinal could grow 8% at a 100% effective payout ratio at the futures strip, which is fairly solid.

• Mitsue could be materially better than Bantry. Cardinal's 11-18 well in the tight Gilwood sands of the Mitsue unit recorded an IP30 rate of 533 boe/d, while the 9-35 well on the western flank in better reservoir recorded an IP30 of 223 boe/d. The company expects gas rates to follow the pool's GOR, which is fairly low. Mitsue development is advantaged by 41 API pricing, and existing fluid handling facilities. At Cardinal's projected $3.0 million DCE&T, we think the tighter play's 100 gross locations (70% wi) could have 30-40% lower capital efficiency than Bantry, with a gross AT-NPV(8.5%) of about $550 million unrisked, or roughly $4.80/share to Cardinal. The western flank is pure gravy and would be fairly competitive with Bantry due to better pricing.

• Discounted valuation. At our price deck, Cardinal trades at 2017E and 2018E EV/DACF multiples of 5.2x and 3.7x (exc. hedging) vs oil-weighted peer averages of 6.1x and 4.7x and a P/NAV ratio of 0.7x vs 0.8x for peers. Cardinal's balance sheet remains in good condition with roughly $80 million in remaining capacity on a $150 million bank line and $250 million borrowing base with downside protection from 43% of 2017 oil production hedged at an average WTI price of $63/bbl.

• We reiterate our Outperform rating and 12-month price target of $11.00 per share. Our $11.00 one-year price target and Outperform rating are based on a rounded 1.0x multiple of the $11.23/share sum of our adjusted base NAV of $9.14 plus $2.08 of risked upside. Our rating and 12-month price target reflects our expectations of solid execution, Cardinal's best-in-class sub 15% decline rate, low capital efficiency and solid financial outlook.