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Reassuring comments made about Petrobank (T.PBG) and PetroBakken (T.PBN).

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Several readers asked for insight into recent developments at our holding Petrobank Energy & Resources (T.PBG), such as suspending operations at the Conklin facility in September. Is this a meltdown? And what impact might there be on PBG from the high debt ratio of PetroBakken Energy (T.PBN), which is 59% owned by PBG? What about rumors that PetroBakken dividends are going away?

First off, let’s clarify that Conklin is not a central pillar of Petrobank’s growth strategy. It’s a demonstration project in Alberta, and it’s plausible to shut it down while weighing test results and regulatory proceedings that will determine its future. We think the market overreacted to the news.

Rather, Petrobank is focused on its Kerrobert and Dawson heavy-oil projects, where work is moving ahead smoothly. At Kerrobert, eight out of ten new well pairs are now on air injection, which is the initial production phase, and the new processing facility is almost complete. As for Dawson, Petrobank completed two stratigraphic evaluation wells and moved the temporary surface facilities from Kerrobert to Dawson during the summer, in support of drilling that is now underway. The company plans to commence air injection before the end of the year.

Petrobank suspended operations at Conklin because it reached the end of its planned work program for the site and now wants to take the time to consider the best approach from here. The company is considering using the area predominantly as a field-scale testing site for future technology enhancements of its Toe-to-Heel Air Injection (THAI) process, a technique that enhances the extraction of sticky, thick heavy oil and bitumen from underground rock while lowering the energy requirements of previous technologies.

To us, this examine-all-options approach is a prudent one, especially given current economic uncertainty and the company’s struggle with share price.

As for PetroBakken, to which we have exposure via its relationship with PBG, we appreciate that management has addressed its weak share price quite vocally in recent weeks, sending a letter to 400 employees, select shareholders, and board members outlining the company’s options to get out of its current financial tight spot.

Yes, reducing its dividend to shareholders is on the list. (We PBG shareholders don’t get these dividends directly, but do benefit from them as PBG tends to invest its portion into projects.) We don’t think that will happen, however, for several reasons. Since these rumors started, PetroBakken has reported its Q3 results, which include a 22% increase in production over Q2. So PBN has a high debt load, but it also has increasing cash flow.

And quite frankly, we don’t agree that the company’s long-term debt-to-equity ratio has risen to a point of true concern. During 2010 the ratio averaged 42%, while the most recent financials indicate a ratio of 50%. From our perspective, this is not a sufficiently significant increase to prompt the company to reduce dividend yield.

Finally, PetroBakken is actually executing its business plan quite well, despite all the negative pressure on its share price. In addition to the production increase we mentioned, the company has 18 drills turning with the goal of drilling another 48 net wells by the end of the year. PetroBakken intends to deliver year-end production of 46,000 to 49,000 boepd, which would generate annualized cash flow of roughly $850 million (based on a WTI crude price of US$85 per barrel).