DBRS Confirms Talisman Energy Inc. at BBB (high) and Pfd-3 (high), Stable Trend

DBRS has today confirmed the ratings of the Unsecured Debentures & Medium-Term Notes and Cumulative Redeemable Preferred Shares for Talisman Energy Inc. (Talisman or the Company) at BBB (high) and Pfd-3 (high), respectively, both with Stable trend. The confirmation reflects the Company’s reasonable reserve and production growth profile and geographically diverse operations, but also considers the Company’s high level of exposure to North American natural gas prices and high capex relative to cash flow.

The Company is focusing growth on high-margin liquids rich plays in an effort to shift production away from low-margin dry natural gas. Talisman is targeting 5% to 10% production growth with a focus on liquids production, backed by substantial capital spending of $4 billion for 2012. DBRS estimates similar capex levels through 2015 to fund this growth. Despite favorable prices for liquids and international natural gas, balance sheet leverage has increased consistently since 2009, causing some concern that these increased capex levels could continue to negatively pressure leverage metrics. Given a significant exposure to North American dry gas (38% of production at December 31, 2011), with no hedging arrangements in place on gas production, a sharp decline in oil prices could have negative implications for the rating.

In addition, the Company has been free-cash flow negative for the past two years. Given the high level of capital spending expected relative to cash flow ($3.1 billion for 2012 as estimated by the Company), cash flow deficits are expected to continue for the near-to-medium term. For 2012, the deficit is expected to be funded by proceeds from asset sales. Continued free cash flow deficits are likely to negatively pressure the balance sheet, specifically once the anticipated asset dispositions are complete.

DBRS would expect the Company to fund its substantial future capex in a prudent manner. Any further material increase in leverage (debt-to-capital approaching 40%, debt-to-cash flow approaching 2.0 times (x)) could cause Talisman’s credit risk profile to deteriorate to a level that is no longer commensurate with the current BBB (high) rating.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodology is Rating Oil and Gas Companies, which can be found on our website under Methodologies.