After the earnings surprise..

IOC: Solid 2Q09, Debt Level Declines; Second Rig Coming Shortly

• InterOil posted 2Q09 operating earnings per diluted share of $0.21 (after backing out a small asset sale gain), far ahead of our estimate of $0.04. The earnings upside was driven primarily by stronger downstream results and lower interest costs. While there is no denying the near-term headwinds facing the global refining complex, the benefits of the company’s exposure to the niche PNG market, with its Import Parity Pricing (IPP) arrangement, were clearly on display, driving continued profitability within the refining segment. Reported companywide EBITDA totaled $17.9 million in the quarter, the second highest level in the company’s history and exceeding our estimate of $12.4 million. After carrying forward the positive operational metrics from this past quarter, as well as the reduced interest expense, we are slightly raising our EPS estimates (shown below).
• Turning to the balance sheet, the liquidity position is in very good shape. InterOil exited 2Q09 with cash on hand totaling $96.4 million (plus $21.4 million restricted), well in excess of its long-term debt balance of $61 million. Following its recent equity offering and full conversion of its convertible notes, debt-to-cap sits at a comfortable 13% – less than one-third of the mid-2008 level of 43%. While cash flow from operations covered capital spending during the quarter by a ratio of 2 to 1, we wouldn’t expect this cash building phase to last as the company kicks its drilling activity into gear (in the final stages of acquiring a second appraisal-focused rig).
• Following the spud of its Antelope-2 appraisal well near the end of last month, the company has made significant down-hole progress, drilling through 1,475 feet of the planned total depth of ~8,366 feet. While improved efficiencies place the well seemingly ahead of schedule, we wouldn’t jump the gun just yet in terms of the drilling timeline – still anticipated to wrap up in late October/early November. Following a full evaluation at the well, InterOil plans to work with its duo of independent reserve engineers to review resource estimates, which could imply upside to the previously released resource figures.
• This was InterOil’s fourth profitable quarter out of the past five, supporting our view of the value within its refinery and downstream business segments. The company continues to progress along its asset monetization timeline, and we anticipate announcements by year end. Following a multi-phased transaction, we believe InterOil would have sufficient capital to fund further exploration and development drilling for the next several years. Our $54.00 target price is based on our risked net asset value estimate, which is a sum of the parts valuation of each of the business segments (shown on page 2). We reiterate our Strong Buy rating.