TIP OF THE YEAR 2009: Faroe Petroleum (FPM)

Faroe Petroleum has 52 licences in the North Sea, including some in the so-called Atlantic margin - ie, the expanse of sea stretching from the west of the Shetlands to Norway. Stockbroker Ambrian describes this area as "Europe's single remaining region with potentially world-class hydrocarbon exploration upside". Hence the attractions of Faroe, whose interests are nicely balanced between production, appraisal and high-potential exploration. Its busy schedule sees it drilling around one well a month, success in many of which would transform the company's prospects.

Daniel Stewart, another broking firm, adds that the west of the Shetlands area accounted for half of all new reserves discovered on the UK continental shelf in 2007. Faroe holds the third largest Atlantic-margin acreage, including 14 licences west of the Shetlands. It will drill three wells in this area during 2009, including Tornado, where it has a 10 per cent interest in a prospect that could produce 100m barrels, and Anne Marie, which is even better - here Faroe has a 12.5 per cent stake in a prospect that could yield 200-300m barrels.

Norway's continental shelf has still been far less explored than the UK's. The Norwegian Petroleum Directorate estimates that the Norwegian shelf contains some 21.4bn barrels of undiscovered resources. Furthermore, Norway's tax regime rebates 78 per cent of exploration and appraisal costs, which enables smaller companies, such as Faroe, to carry out exploration programmes that, otherwise, only the oil majors could do. Within Norwegian waters, Faroe will drill the large Grosso gas prospect in January, targeting 500bn cubic feet of gas. It is also about to drill South East Tor and is targeting first gas production from Trym in 2010.

Generally, Faroe takes minority stakes in its prospects and is not the project operator. This means it has to follow others explorers' work schedules, which could put pressure on its finances. That said, its expertise has helped develop excellent relationships with majors, such as Shell, BP, Chevron, Statoil, Eni and ConocoPhillips, whose resources help Faroe drill high potential, but often expensive, wells. These majors value Faroe's technical expertise, which was a key factor in the company being awarded its Norwegian acreage.

Faroe has also demonstrated expertise in completing value-enhancing deals, through farm-outs (obtaining the financing for projects in return for equity), asset swaps and licensing applications. Faroe recently won two licences in each of the UK's 25th licensing round, the third licensing round from the Faroe Islands and three new prospective licences under Norway's 2008 round.

Three fields in the southern North Sea (Minke, Schooner and Wissey) currently produce around 1,000 barrels of oil equivalent per day (boepd) of gas, generating valuable cash flow for Faroe. The company plans to redrill Minke to increase its output, and the nearby Topaz and Orca fields could begin producing during the course of this year. These developments should lift average 2009 production to around 1,500 boepd.

The recent successful drilling of East Breagh, where Faroe has a 10 per cent stake, demonstrated that East Breagh and West Breagh are connected and together form one sizeable field - potentially the largest undeveloped gas field in Britain (estimated to contain more than 300 billion cubic feet of gas).

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Faroe has the finances to carry out its drilling programme well into 2010. It funds three quarters of its Nowegian exploration through a Norwegian credit facility that has recently been doubled to £48m. The company also has an unused £25m borrowing facility with Société Générale. In addition to a healthy balance sheet, its cash flow is turning positive and would be greatly helped if Faroe's application to become a Norwegian licence operator is successful.