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Northern Petroleum (Northern) has a series of potential half a billion plus barrel prospects to explore off the coast of Italy; where success could be transformational for the Company.

These exciting prospects lie within four core areas, one of which has already been snapped up by Shell, leaving three more core areas to trade. Northern has acquired a large number of key licences in prospective areas in offshore Italy, which is equivalent in size to more than 85 North Sea blocks. With applications pending, it could be that the Company ends up with a licence area about the same size as that of ENI, the Italian multinational oil and gas company. Northern is now beginning the process of unlocking value offshore in Italy with drilling. Its partner Shell is expected to make a drilling decision shortly on the West Sicily Thrust Belt for a well to be drilled in 2012 which could led to a strong rerating of the shares.

Over the past decade, Northern has consistently added shareholder value by growing its portfolio of good quality oil and gas prospects without paying high entry costs. The real focus has been on low priced assets where value can be added at a relatively low cost. At the heart of the strategy is the winning of valuable exploration licences which is followed by the Company undertaking the necessary geological, geophysical and engineering work to dramatically add value before inviting larger players to farmin into the projects at an exploration or development stage, or traded to acquire production. Not only has Northern an impressive track record in acquiring assets cheaply, but also has made €40m of trading profits from disposals of non-core interests.

Alongside the blue sky potential of Italy lies the strong growth in production in The Netherlands which underpins the share price. The board has its sights firmly set on a target producing 5,500 barrels of oil equivalent per day (boepd) in 2015. Northern has a firm platform for this with current production of 1,200 boepd which is expected to climb to 2,250 boepd in early 2011. In September, the Brakel field came on stream which is the third of six onshore oil and gas fields that Northern has brought into production. The Brakel field is part of the Company’s first multi-field gas development which is expected to be completed early next year when the fourth field the Wijk en Aalburg commences production. Once that has been achieved, Northern will be turning its attention on getting the Ottoland and Papekop oil fields to come on stream.

The board has revised the growth strategy which involves speeding up the development of assets in Italy and The Netherlands by increased investment. At the AGM in June 2010, the Directors highlighted what was required to implement such a strategy. The appraisal and exploration projects in Italy are to be accelerated by acquiring more seismic data which will allow farmouts to be agreed at better terms. At the same time development of the North Ottoland and Everdingen South in the south of the Netherlands as well as the Oosterwolde and Zuid Frieslandin the north of the country are to be fast tracked to production.

In order to get a better understanding of these new core areas in Italy, the board is acquiring more data ahead of inviting in partners to help fund the drilling. Already a farmout deal has been agreed with Shell covering six permits on the Company’s acreage off-shore Sicily. The team is also seeking to agree farmout deals on the other three core areas which are: Sicily Channel Basins, the Durres Basin in the South Adriatic Sea and the Crotone Basin in the Ionian Sea. The recent proposed ban of any oil production within 5 miles of the Italian shoreline will have little material effect on Northern as its most of its acreage is further away from the coastline.

The City does not appear to yet understand Northern’s new focus on accelerating exploration activities in Italy whilst production is being ramped up in The Netherlands. Today, Northern share lie at a price that begs attention as it fails to reflect the obvious upside potential within the Company. Perhaps the share price has suffered unduly over the past twelve months as progress in The Netherlands was not as rapid as expected. Certainly there seems to be a buying opportunity as the stock is taking its time to recover from the £10 million placing at 85p which was raised at the deeply discounted level of 85p that may have smacked of desperation and damaged investor confidence.

Our analysis suggests that the share price of Northern is substantially undervalued. Peer comparisons allow us to place a target price on the shares of 134p. We reinitiate our coverage, at 88.75p, with a stance of strong buy.