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ConocoPhillips (NYSE:COP)

Q1 2009 Earnings Call Transcript

April 23, 2009 11:00 am ET

Executives

Clayton Reasor – VP, Corporate Affairs

John Carrig – President and COO

Sig Cornelius – SVP, Finance and CFO

Analysts

Arjun Murti – Goldman Sachs

Paul Sankey – Deutsche Bank

Paul Cheng – Barclays Capital

Mark Flannery – Credit Suisse

Mark Gilman – Benchmark Company

Erik Mielke – Merrill Lynch

Robert Kessler – Simmons & Company

Doug Leggate – Howard Weil

Operator

Good day, ladies and gentlemen, and welcome to the ConocoPhillips first quarter 2009 earnings conference call. My name is Jen and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of today's conference. (Operator instructions) As a reminder, this conference call is being recorded for replay purposes.

I will now like to turn the presentation over to Mr. Clayton Reasor, Vice President, Corporate Affairs. Please proceed, sir.

Clayton Reasor

Thanks. I’d like to welcome everybody to our conference call this morning. It’s great to be back in IR. I look forward to working with all of you, and just give us a call anytime you need to get answers to your questions.

Today, we will be discussing our first quarter results for 2009. And joining me is John Carrig, our President, Chief Operating Officer; and, Sig Cornelius, our Senior VP and Chief Financial Officer. This presentation, along with other information regarding the first quarter performance, is on our website. You can find it at conocophillips.com.

On page two, you’ll find our Safe Harbor statement. It’s a reminder that we’ll be making forward-looking statements in our presentation in the conference call, and actual results may differ materially. Our SEC filings contain information on the items that could cause material differences.

In addition, this presentation contains non-GAAP financial measures, which are reconciled to the most comparable GAAP, either in the appendix to this presentation or in the Investor Relations section of our Web site.

I’d like to turn the call over now to John Carrig.

John Carrig

Thank you, Clayton. And thanks to all the investors and analysts for joining us on the call today. We are pleased to share our first quarter results with you.

Now let’s start on page three, the first quarter overview. This slide shows a snapshot of our results for the quarter, which reflects earnings of $840 million and cash from operations of $1.9 billion. Our debt-to-capital ratio increased slightly, and I’ll take you through the details of that in a few minutes.

In the upstream, we produced 2.63 million BOE per day, including an estimated 439,000 BOE per day from LUKOIL. In the downstream, utilization was lower at 81%, mainly due to planned maintenance in the United States. We are also pleased to see their operating costs are coming down due to the benefits from planned programs as well as some help from market conditions.

So now let’s move on to page four, which shows our earnings variance. Our first quarter earnings were $840 million, compared with the fourth quarter adjusted earnings of $1.9 billion. Our largest variance is due to market prices. Compared to the fourth quarter, our realized crude and natural gas prices decreased by more than 20%. We also saw lower realized refining margins, which I’ll discuss later. Our overall price margin, and other market related impacts, decreased earnings by nearly $1.7 billion. Although our E&P production volumes were higher, the earnings impact of the lower downstream volumes for the ConocoPhillips and LUKOIL more than offset this benefit.

As noted on the previous slide, we did see a benefit of lower operating cost in almost every segment, which improved earnings by more than $250 million. This benefit excludes the severance accrual that we made in the fourth quarter. And while we think that there could some timing benefits in the first quarter, we're clearly seeing some good progress on our cost reduction initiatives across the company.

There was a benefit in the first quarter of around $500 million from lower export and production taxes in our LUKOIL segment as well as in Alaska. This improvement is in line with expectations given the decrease in the pricing environment.

Finally, there are other items that, in the aggregate, improved first quarter income by $125 million, which will be detailed in the segment information.

So let’s move on now to review our cash flow for the quarter. On page five, you see – we started the quarter with $800 million in cash, and generated $1.9 billion in cash from operations during the quarter. In addition, we borrowed an incremental amount of $1.9 billion. We had capital spending of $3.1 billion, and a dividend payment of $700 million. And we ended the quarter with $800 million in cash.

Focusing on the debt increase for a moment, we announced the $12.5 billion capital program for 2009 that is directed at maintaining the operating integrity of our assets, funding major new projects and exploiting our core asset base. Our first quarter spend of $3.1 billion is on target with this full year amount. A portion of the debt increase was related to working capital increase of nearly $1 billion. The lion's share of that increase was due to inventory builds in response to the commodity market structure and commercial storage opportunities. Drawdown of these inventories in subsequent quarters will be dependent upon the underlying market conditions as we move throughout the year. As previously indicated, we plan to access the debt market some time during the second or third quarter.

So let’s move on to page six, which addresses our capital structure. On the chart on page six, if you look at the chart on the – on the left, you can see that ended the first quarter with $56 billion of equity. Along with the increase in debt, it’s in the middle, our debt-to-capital ratio increased slightly to 34%. We continue to have a long term debt cap target of 20% to 25%. In the near term, lower commodity prices may mean that we stay at 34%, or potentially trend higher. However, we will continue to exercise our capital discipline as well as implement cost reduction initiatives to mitigate some of the impact – some of the effects of these price impacts.

So now, let’s move on to our operating segment, starting with E&P on page seven. Consistent with the total company volumes, our E&P segment results were lower due to commodity price decreases. Our realized prices for both crude oil and natural gas decreased by around 20%. For crude oil, our realized price was $41.56 per barrel, which was $11.26 per barrel below the fourth quarter of 2008. Similarly, realized natural gas prices decreased by $1.39 per MCF to $4.93. Offsetting these price decreases were lower operating cost and lower production tax.

Additionally, we saw improvements in production volumes, which I will detail now as I turn to slide eight, which discusses our production volumes. Production from our E&P segment was up again this quarter. Our total production in the first quarter was a little over 1.9 million BOE per day, which was 3% or 58,000 barrels per day higher than the fourth quarter of 2008.

Moving to the first green bar, the biggest increase for the quarter came in Indonesia, as we benefited from the positive effects of lower prices and increased cost recovery as well as the higher sales nominations. In Russia, we had additional benefits from the ramp-up of the YK field, and are now close to the sustained production rates there. In the same bane, we had additional production in Vietnam, from the Su Tu Vang development, which came on line last quarter. In Australia, we benefited from a full quarter of APLNG production as well as lower planned downtime.

When these increases are netted against the small decrease in all other regions, our total E&P volumes were 1.925 million BOE per day. Adding the estimate of our LUKOIL share equity – our equity share of LUKOIL's production, ConicoPhillips’ first quarter production totalled 2.364 billion BOE per day.

Now moving on to page nine, which addresses E&P earnings. Starting at the left, E&P adjusted earnings for the fourth quarter were $1.4 billion. Prices, margins, and other market impacts reduced our first quarter income by $1 billion. Although there were fewer days in the quarter, we benefited from an increase in overall sales volumes driven by production growth. On the cost side, we were improved by nearly $200 million versus the last quarter. Now, some of this is timing as our exploration spend during the quarter was a bit less than rateable. And the first quarter tends to have less maintenance activity than other quarters. But even after you factor in these items, we are seeing cost reductions and expect these to continue to persist as we move further through the year.

Consistent with the lower price environment, we had a benefit of $153 million on production taxes, primarily in Alaska. There were other items, which in the aggregate, decreased earnings by $73 million. These included first quarter foreign currency losses, which were partially offset by lower dry hole costs. This brings us to our total first quarter earnings of $700 million.

Now, let’s move on to R&M segment. Like E&P, R&M’s earnings for the first quarter were impacted by prices and markets. We saw significant decreases in our global marketing margin as prices stabilize compared to the fourth quarter. We also saw a big change in our overall refining market capture, predominantly in the United States. And I’ll talk a bit more about that on the next slide.

Domestic refining capacity utilization was 80% in the first quarter. This is 14% below the last quarter due to planned maintenance that impacted all of our Gulf Coast refineries as well as the East Coast region. International refining utilization was 85%, down from 89% in the previous quarter due to slightly higher market driven reductions Wilhelmshavener refinery in Germany. Worldwide, that gave us total refining utilization of 81%, which is 12% lower than the previous quarter.

So the next slide addresses R&M’s earning variances. Starting on the left, on page 11, R&M’s fourth quarter adjusted earnings were $753 million. Overall, prices and margins decreased earnings by $325 million. Around 60% of this decrease was due to lower marketing margins. Another component of the decrease was lower international refining margins, which decline by nearly 40% compared to the fourth quarter.

Although refining margins were up by $5 per barrel, the realized margin – refining margin in the US increased only $0.59. Another way of looking at this difference is our market capture or the realized margin versus the market indicator margin. Refining capture in the fourth quarter was 118% of the market indicator. While in the first quarter, it was closer to our normal range at 69%.

There were two big factors that drove that change. First, the relationship between gasoline and distillate spreads change significantly. In the fourth quarter, gasoline spreads were essentially breakeven. So the fact that we yield around 20% less gasoline than implied by the market crack did not hurt our capture rate. In the first quarter, gasoline cracks were up by about 11% per barrel. And we did not get the full benefit of this increase because of our lower gasoline yield. On a sequential basis, this factor reduced our capture rate by some 30%.

The other large driver of our lower US market capture was the compression of crude differentials. During the first quarter, the sour heavy crude such as Maya and Canadian sour created much closer to WTI. In addition, for the quarter, Brent traded at a premium to WTI. These crude differentials decreased our relative crude advantage and the rate of market capture.

Now moving on to the other variances, you can see that the impact of our lower refining throughput and corresponding sales volumes was around $250 million. On the cost side, like upstream, we’re also seeing reductions in the downstream. This quarter we had a larger turnaround spending, but this was more than offset by the savings in our base operations. Finally, there were other items that in the aggregate decreased income by $14 million, bringing us to R&M’s earnings of $205 million.

Now I’ll move on to Slide 12, earnings in other segments. Our estimate of the first quarter earnings from LUKOIL is $48 million, compared to an adjusted net income of $0 million in the fourth quarter. This increase is due to lower estimated export tariffs and extraction taxes, and the change in basis difference amortization stemming from the fourth quarter LUKOIL impairment. These improvements were partially offset by lower estimated volumes in prices and the absence of fourth quarter positive true up.

Earnings from our midstream business were $123 million, which is $54 million higher than the previous quarter. As we indicated in the interim update, in the first quarter we booked an $88 million gain on shares previously held by – previously issued by our subsidiary of DCP, midstream. This gain was partially offset by lower realize prices in volumes.

Our Chemicals JV had earnings of $23 million, compared to a loss of $6 million in the previous quarter. And in the emerging business segment, earnings were zero for this quarter, which is down from adjusted earnings of $60 million in the fourth quarter. This decrease is primarily attributable to lower international power margins.

Finally, our corporate expenses were $259 million, which is $95 million lower than the previous quarter due to reduced foreign exchange losses. And continuing the theme from our operating segments, we also saw a lower corporate cost this quarter.

So let’s move on to the per barrel metrics that are starting on page 13. You can see that income and cash per BOE in the upstream have come off with commodity prices. And compared to our peers, we could see a greater impact this quarter due to the heavy waiting of ConocoPhillips to North American natural gas.

With that said, we still see good cash generation with the changes to our cost in capital structure. We expect that we will be competitive in a lower price environment. Page 14 shows similar comparisons for the downstream.

Like upstream, our downstream performance also remains competitive with our peers. First quarter performance does reflect the market conditions that we discussed earlier, along with higher level of turnaround activity.

So now, let’s move on to Page 15, which addresses the return on capital employed. This chart shows our return on capital employed for the fourth quarter of 2008 and the first quarter. Compared with previous periods, we’re no longer adjusting for purchase accounting and we probably have adjusted for certain items that you can see in the appendix.

Our returns were lower in the first quarter in conjunction with the decrease prices and margins. While we don’t have yet data for our peers yet, we could see the peer group decreases, as well. Going forward, we’re focused on closing the gap between ourselves and the peer group. And will be showing this sequential progress quarter-by-quarter in this area.

The next slide addresses our outlook. In E&P, we expect our full year 2009 production will be slightly higher than 2008. However, the second quarter is anticipated to decrease somewhat due to higher levels of plant maintenance and seasonality that will overshadow new production growth at Bohai and other areas.

In the downstream, we expect our global refining capacity utilization to be in the upper 80% range. In the US, we expect to improve to the low 90% range. This improvement in our global utilization rate will be partially offset by lower utilization in our international refineries due to plant maintenance. Throughout the remainder of this year, we will continue to implement our cost reduction programs as previously outlined.

On the capital side, our major projects are progressing well. And we expect to see first production from Bohai Bay Phase II in the second quarter. We are also nearing completion of the San Francisco hydrocracker project at our San Francisco refinery.

We have seen a reduction in day rates for rigs in North America E&P. And we expect to see lower drilling costs for our exploitation programs. For now, we do not see any significant change to our announced capital program of $12.5 billion.

So with that said, Clayton, I’ve now completed the prepared comments that we have and we'll open the call to questions.

Clayton Reasor

Great. Thanks a lot, John. Ken, you have any questions for us?

Question-and-Answer Session

Operator

Yes, sir. (Operator instructions) Our first question, gentlemen, comes from Arjun Murti with Goldman Sachs.

Arjun Murti – Goldman Sachs

Thank you. Just a follow-up in terms of some of the operating cost reductions in E&P that you were discussing, it sounds like you’re feeling good that those are and will come through. If I look at your sequential comparison you showed here on, I think at page nine, you showed me – I think that’s inclusive in the operating cost of the exploration expense, which sequentially was down quite a bit. I guess, I’m just wondering on the production cost alone x exploration, what’ve you seen so far in terms of reductions and what you’re sort of expecting over the course of this year in the E&P segment. Thank you.

John Carrig

Well, thank you, Arjun. When we discussed with you our analyst meeting in March the objectives for the year, we expected that we would see about a $1.4 billion reduction on our controllable cost. And we’re still – we believe that we’re on target to achieve that. Yes. The first quarter did include some reductions in exploration cost and some other timing issues that we feel were on track.

We had an excess of $400 million reduction and controllable cost. We feel we’re on track to deliver the $1.4 billion that we set out to deliver.

Arjun Murti – Goldman Sachs

Got you. And is that both North America and International? Or is one area more important than the other in terms of the split?

John Carrig

Well, it’s both. And I actually – the $400 – yes, it’s both.

Arjun Murti – Goldman Sachs

Yes, both US and international.

John Carrig

That was the consolidated number I was addressing, but yes.

Arjun Murti – Goldman Sachs

Okay. Thank you very much.

Operator

The next question is from Paul Sankey with Deutsche Bank.

Paul Sankey – Deutsche Bank

Hi, guys. John, you’ve just mentioned that you don’t anticipate any changes in your CapEx program for 2009 for now, you quite really said. I wondered, could you talk a little about the sensitivities there in terms of re-planning? What you're spending, maybe for the year, given the way the cash flow match up against the CapEx of Q1? Thanks.

John Carrig

Thanks, Paul. What our plans – what the first quarter reflects is largely in line with expectations, our expectations, given the commodity pricing environment. We really think it’s pretty mature for us to be making any adjustments in the overall capital program. We have indicated that we would expect to see – if the current environment persists that we’d expect to see debt trend up somewhat. We will continue to evaluate this and look further as the year progresses. But right now, we don’t foresee an adjustment in capital program.

Paul Sankey – Deutsche Bank

Right. My sense is that you’re going – you’ll likely to defend the volumes somewhat up and slightly higher. I think that’s the exact language you’ve used for volumes in 2009 and 2008. So I guess, if you would, CapEx later in the year, you’d be looking more at the downstream?

John Carrig

Well, we take a rigorous look across the board. And would cut – without getting into where, but we would cut where we felt who made the most sense. I don’t want to try to prejudge that at this moment.

Paul Sankey – Deutsche Bank

Fair enough. On the working capital that you’ve talked about, taking of advantage of Contango in the market, has that positioned change throughout the quarter? I know that we've had some variation in the amounts of Contango. And going forward, if we continue with the various Contango, would you expect that working capital commitment in storage to rise more? Or have you reached – if you limited what you’re prepared to do?

John Carrig

Well, as you know, we have a commercial organization that trades around our assets, including taking advantage of market structures for the things like Contango in the market. The storage economics in the first quarter, as you indicated, were favorable. And as a – we took advantage of that to some extent. I don’t want to say we wouldn’t increase materially, but the – I don’t want to say we would increase or would or would not increase materially. We think that we’re taking advantage of about the right amount right now. And I don’t anticipate a significant working capital draw or cash draw – cash investment beyond what we’ve got today.

Paul Sankey – Deutsche Bank

I wonder that you’ve physically set the limits. I guess, your tanks might be full just about.

John Carrig

But you know we don’t comment on commercial terms or what we’re doing in the commercial arena. So I’d hate for us to comment on what capacity utilization we’re using on storage.

Paul Sankey – Deutsche Bank

Okay. Let’s have one – last one for me. Thanks. Just of the 80% utilization that you’ve mentioned in Q1, was that entirely owing to turnarounds or was that some voluntary shutdown? Could you indicate the extent?

John Carrig

It was a modest amount of reductions that were impacted by hydro-skimming margins in Europe. But this was by far the heaviest turnaround portion of the year for us.

Paul Sankey – Deutsche Bank

So you expect to see highlights of that. Your utilization will ramp up in Q2 without – given what we’re seeing right now in the market, the expectation is therefore you have the low 90s, I think is what you’ve said.

John Carrig

Low 90s in the US and high 80s overall because we do have turnarounds. As you know, in Europe, it’s second quarter seasonally. That is the time when we do have turnarounds. And we do expect to have international – turnarounds internationally. So overall, high 80s, US mid 90s.

Paul Sankey – Deutsche Bank

Okay. Thanks, guys.

John Carrig

Thanks, Paul.

Operator

The next question comes from Paul Cheng with Barclays Capital.

Paul Cheng – Barclays Capital

Hey, guys. Two questions. One, John, when you guys were talking about the cost reduction, I presumed that you guys are not talking before your supplier or your vendor about cost reduction. And what’s their – are they being receptive that – on looking at even on the existing contract or those opening that you would only be looking? And that the new contract that you may go in to sign on to?

John Carrig

Well. Thank you, Paul. The relationship with vendors, we have a wide variety of relationships. Many of which – well, you can say, most of which are long term relationships. We don’t consider that anything is off the table. And what we try to do is to address our needs, which are we cannot wait for cost – the cost reductions to naturally occur, we have to go get them. And we need the commitment and the cooperation of the vendors on a long term basis to achieve that.

So without getting into the details of what we might be – what we might be doing, we do have some contracts that roll off. And we do have a lot of flexibility in our existing contracts. So we’re both addressing new as well as the flexibility inherent in many of the contracts we–

Paul Cheng – Barclays Capital

John, can I ask in another way? You guys have indicated $1.4 billion of the controllable cost reduction target. How would that – how much of them maybe – is your target related to their existing contract, but not the new contracts?

John Carrig

We don’t really break it out by that way, Paul, because many of the existing contracts have the capacity to address changing market conditions in them already. So they’re not fixed price kind of contracts. I just don’t have – we can try to look and help you with – to quantify some – how we see this. But we don’t – we don’t address it I don’t think in precisely the way that you’re asking the question.

Paul Cheng – Barclays Capital

Well, how about the $1.4 billion, how much of them are related to headcount or human cost?

John Carrig

Well, we said we’d have a 4% reduction so when we took a $100 million accrual in the first quarter. So I would say the lion’s share is not in the headcount. It is in – there are some benefit of lower inflation, including vendors. And within the vendors is rig rates. There’s trying to do things to take more advantage of the overall environment that we have today, so.

Sig Cornelius

There’s also some market related items, Paul, around utility cost or market sensitive costs that, obviously, as commodity prices fall, our core structure fall.

Paul Cheng – Barclays Capital

Sure.

Sig Cornelius

That’s something we can get into detail with you, if you’d like more information on that.

Paul Cheng – Barclays Capital

Okay. And final one, ONG [ph], can you give us a progress if it’s still going to be on stream in 2010? Or given the market conditions that you guys may decide to go a bit slow?

John Carrig

Our current expectation is that we will come on stream in 2010.

Paul Cheng – Barclays Capital

Thank you.

John Carrig

Thank you.

Operator

The next question is from Mark Flannery with Credit Suisse.

Mark Flannery – Credit Suisse

Hi. Yes. Just further on the cost if you – you mentioned the $1.4 billion reduction in controllable costs. I’m sorry if I missed this, but what is that as a percentage of your total controllable cost?

John Carrig

That’s 10%, Mark.

Mark Flannery – Credit Suisse

10%. Right. So you think you’ve already done 400–

John Carrig

I’m sorry. It’s 10% of 2007 levels to be just clear.

Sig Cornelius

2008.

John Carrig

I’m sorry, 2008 levels.

Mark Flannery – Credit Suisse

Okay. Some percentage of last year’s–

Sig Cornelius

That’s right.

Mark Flannery – Credit Suisse

Okay. Just changing over a little, you point out you have a 5% return on capital for the quarter. I just like an update on how you’re thinking about that. And it’s obviously pretty low. You’re obviously expecting some kind of improvement. Where do you think that needs to get to be in the acceptable levels?

John Carrig

What we’ve indicated and what we want to do is to get it, firstly, within the target range – in the peer range. And then continue to improve it over time.

Mark Flannery – Credit Suisse

Well let me ask you in another way, which is if you end up at current commodity prices with a single digit return on capital or you might have to take further action to improve that?

John Carrig

Well, right now we're focused on our cost reduction efforts, and I don't want to anticipate any further actions that we would take. We just have to evaluate what we might – what me might do going forward. Clearly, we are focused on delivering capital efficiency. But this is a – we recognize that this takes a concerted and persistent effort to achieve this gap closure over time.

Analyst

Okay. Thank you very much.

John Carrig

Thanks, Mark.

Operator

The next question is from Mark Gilman with Benchmark Company.

Mark Gilman – Benchmark Company

Good morning, guys. I have a couple of things. First, specifically, the refinery utilization rates, John, you quoted for the second quarter, does that include any economically or any extra curtailments?

John Carrig

I don't believe that includes a significant amount. I can't recall whether the – what the premise is for Wilhelmshaven, but I don't believe it's – I don't believe it's based on hydro-skimming margins.

Mark Gilman – Benchmark Company

Okay. Secondly, I wanted to clarify the Bohai Phase II comment that you made. I think your reference was the start-up of Bohai Phase II. Yet, it is to my understanding that several platforms associated with that project have been on line now for quite some time. Could you just clarify that and talk a little bit about the sequencing going forward.

John Carrig

Yes. You're correct, Mark. We did start – we have started up some of the platforms in some – I'm sorry for the confusion that may have caused. What I was referring to is the mating and hook-up of the floating, production, and storage offloading facility that will permit us to get our production, I believe, up to 69,000 barrels per day net sometime this year.

Sig Cornelius

2011.

John Carrig

2011.

Sig Cornelius

We expect it to be at 50,000 a day by 2010. We're about 20,000.

John Carrig

Sorry, Sig, why don't you repeat that.

Sig Cornelius

Yes. Currently, we're on 20,000 net today. We’re going to ramp up to around 49,000 to 50,000 by the end of the year. And in 2011, we'll be down at about 70,000 barrels a day.

Mark Gilman – Benchmark Company

Okay. Just shifting gears a little bit, could you comment about – I believe about, John, some increased nominations regarding Indonesian natural gas sales, which were up quite a bit. Were those just increased nominations under existing contracts? Or was there a new contract that kicked in that generated those increases?

John Carrig

No. Those were under – those were under existing contracts. But there was – there have been – one new field came on. But they're basically – I'll make it under existing long term contracts.

Mark Gilman – Benchmark Company

So that one shouldn't be netted necessarily to the sustainability of those volumes going forward?

John Carrig

Well they're demand based.

Mark Gilman – Benchmark Company

Right.

John Carrig

Yes. Looking at that $30 million or so increase in Indonesia, about half of that is PSC related.

Mark Gilman – Benchmark Company

Okay. And finally, just one more for me. The coal bed methane LNG industry in Australia seems, from a competitive standpoint, to be taking off, to say the least, with a lot of competitor projects out there, including yours with origin. Yet it has appeared, I guess to me, that the proposals being put forth by BG as well as Santos seem to be moving ahead at a slightly greater clip than yours with Origin. Is there some reason that things are moving a lot more slowly or seemingly so for your project?

John Carrig

No, Mark. That project is on – exactly on track as where we premised it to be when we went into it. We’ve approved the work program up to FID. The upstream work program is in place. We have filed the advice statement with the coordinator general approval stating the timeframe, in which we are advancing the project. And it's certainly along with our – marching along with our expectations right now.

Mark Gilman – Benchmark Company

Okay, guys. Thank you.

Sig Cornelius

Thanks, Mark.

Operator

Your next question is from Erik Mielke with Merrill Lynch.

Erik Mielke – Merrill Lynch

Yes. Thank you. I have two questions. The first one probably for Sig, and I guess the second probably be for John. Firstly, on the opportune segment in the first quarter, looking at the US relative to international. Your margins in international held up significantly better. And I know you've already touched on some of these issues around crude pricing, and I guess taxation would also be – would also be a factor. Was there anything else playing into the variance performance of the international versus US? I'm thinking foreign exchange. I'm thinking new projects that came on stream that may have had a lower unit cost. The change is quite significant.

Sig Cornelius

Yes. Primarily, the US gas prices related – where the gas prices around the world held up better and are not going to be reflective of what's going on in the US. And as you know, we're at the US natural gas player in Lower 48, so.

Erik Mielke – Merrill Lynch

But nothing beyond reorganizations?

Sig Cornelius

No.

Erik Mielke – Merrill Lynch

Okay. All right. My second question relates to the leadership that you have shown as a company on US energy policy in particular and climate change through your participation in USCAP. And also, I noticed that one of your representatives was a witness yesterday at the hearings in Congress. I was wondering if you could make the comment a little bit on how you see the current proposals and how that might impact the oil industry.

John Carrig

Well, as you indicated, we are a participant in USCAP and we testified. Red Cavaney, representative of ConocoPhillips Washington office, testified yesterday on behalf of ConocoPhillips. We see that there are a number of issues as you get into the details here. We have specifically mentioned yesterday a comment on the allocation of allowances, cost containment, the impact of the low carbon fuel standard versus the renewable fuel standards, and how they overlay, and whether they should overlay. So those kinds of things we think were – the kind of comments that we made we believe were heard. And we hope that they will have some favorable response. And so that's part of the effort that we want to do. We want to make our views known and to help shape the outcome.

Erik Mielke – Merrill Lynch

Okay. Thank you.

Operator

The next question is from Robert Kessler with Simmons & Company.

Robert Kessler – Simmons & Company

Good morning, gentlemen. Your interim update from early April indicated anticipated losses in the US Lower 48 and Canadian E&P operations. To what extent did you lose money in those regions in the quarter?

John Carrig

Well, in the report that's associated with the – that we attached to the – it's on our Web site. The US is broken out. And I believe we lost the $70 million in the Lower 48. Canada, we really don't break out. And Canada, of course, is itself – the way I think of it is you've got the Arctic, you've got ongoing exploration to the extent there is some on the East Coast heavy oil – heavy oil, and then Western Canada Gas. Western Canada Gas performed broadly in line with the way the US did. But the others, we just don't break out.

Sig Cornelius

Of course, that Lower 48 loss of $71 million was more than offset by the $244 million earnings that we had in Alaska.

Robert Kessler – Simmons & Company

Got you. I guess looking particularly at the US Lower 48 losing money, and then Western Canada Gas losing money. Assuming current commodity prices persist, when would you return to profitability in those segments do you think given the cost cutting initiatives you have in place?

John Carrig

Yes. I don't know if we've come out breakeven costs around net income. Maybe that's something we can work with you, Robert, on – based on the information that we provided externally.

Robert Kessler – Simmons & Company

Okay.

John Carrig

Let us come back to you on that one.

Robert Kessler – Simmons & Company

Fair enough. Thanks so much, guys.

Operator

The next question is from Doug Leggate with Howard Weil.

Doug Leggate – Howard Weil

Thank you. Good morning, John. John, my question is on LUKOIL. I'm trying to understand exactly what you meant by you – essentially what you've done to rebase the way that you accounted for that in the quarter. And what I'm referring to is that you don't know what LUKOIL is going to report ahead of time. So on the fourth quarter you assumed zero. And then LUKOIL came out with a fairly hefty loss and you did not take any retrospective negative adjustment as you would normally do. And then obviously in Q1, you're assuming $48 million positive. Can you just help me reconcile what is going there because I would have expected you to take that retrospective loss. And it looks like you didn't touch it this quarter.

John Carrig

Well thanks, Doug. I'll try to address that at conceptual level. But beyond that, maybe Sig can help out. But the reason for the phenomenon that you referenced is associated with the fact that you have a mark-to-market event. So when there's a mark-to-market event and there – and an impairment, I mean. And you're essentially writing it down to the investment down to market value.

Yet, if there is any subsequent true up of a negative nature or even positive nature, but certainly the negative nature for sure, that has the effect of recording a negative equity earnings and reducing the investment, thereby the mark-to-market, which takes you back to the same answer mechanically in every situation. So it's a phenomenon associated only when there's a mark-to-market event. And we would not expect it to be an ongoing feature of the earnings analysis.

Sig Cornelius

Yes. I think as John said, Doug, it was a unique situation driven by the mark-to-market accounting. I related in the first quarter, the earnings – there are only two things going on with the earnings underlying loss that we're projecting around $10 million. And then we are recording earnings from the negative amortization of around $17 million a month, which we'll see as long as the stock price continues to rise above the – the value that we wrote it down to, so.

Doug Leggate – Howard Weil

Okay. I guess I understand the mechanics of it. But can you help me understand what – had you done it the normal way, what would the number have been in the first quarter, the retrospective adjustment to make you consistent with LUKOIL's reported earnings.

John Carrig

Are you just asking what's 20% of $1.6 billion?

Doug Leggate – Howard Weil

Well I guess there were some – well, the $1.6 billion includes some write offs. So I guess I was looking for the clean adjusted number, which has – you've got more – you're view on that would probably be more accurate than mine.

John Carrig

I think that's going to be – wouldn't you have to wait until – you have to give us a supplement.

Sig Cornelius

Doug, the number – the number if we would have done it true up as we've done in the past, we would have had a negative true up of $255 million. And as John said, that would have been immediately offset by the same amount on the write off to the investment. So effectively, it would have had no impact on first quarter earnings results.

Doug Leggate – Howard Weil

Got it. All right. Thanks very much (inaudible).

John Carrig

Thanks.

Operator

(Operator instructions) The next question is from Mark Gilman with Benchmark Company.

Mark Gilman – Benchmark Company

John or Sig, I think that you made reference to, if I heard you correctly, intent to access the debt markets in the second or third quarter of the year. And I'm wondering whether that's incremental borrowing based on your outlook or whether it's funding of shorter term debt that you may have taken on after this point.

John Carrig

It would basically be to roll our current short term balances into longer term maturities.

Mark Gilman – Benchmark Company

Okay. So it's not an indication, at this point, of the expectation of an increase in the debt level per se?

John Carrig

That's correct.

Mark Gilman – Benchmark Company

Okay. Thanks a lot, guys.

Sig Cornelius

Okay. Thanks, Mark.

Operator

Gentlemen, there are no further questions in the queue. I'll hand the call back to Clayton Reasor for closing remarks.

Clayton Reasor

Great. Well, we really appreciate everybody's participation in the call this morning. If you have any questions or follow-up, I think the number – or our number is in the bottom of the earnings release. You can find copies of our presentation material on conocophillips.com. I look forward to working with you in the future. Thanks so much.

Operator

Ladies and gentlemen, we thank you for your participation in today's conference call. This concludes the presentation, and you may now disconnect. Have a good day.

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Source: ConocoPhillips Q1 2009 Earnings Call Transcript
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