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Summary

  • ConocoPhillips posted a solid set of earnings on Thursday.
  • As the company reported strong production growth, driven by organic growth and less downtime.
  • Long term appeal remains, driven by the valuation, anticipated growth and fair payouts.

ConocoPhillips (NYSE:COP) posted a solid set of second quarter earnings on Thursday with reported earnings being in line with expectations. The good news was the strong current production, which continues to create appeal, even as shares have seen a lot of momentum in recent months.

The strong growth profile of the company in combination with the appealing valuation is very attractive, yet I am hoping for a slightly bigger correction before adding to my position.

Second Quarter Highlights

ConocoPhillips reported second quarter revenues of $14.70 billion, a 4.0% increase from last year.

The company posted net earnings of $2.08 billion, a 1.5% improvement compared to last year. Amidst a roughly constant outstanding share base, earnings improved by two pennies to $1.67 per share.

Excluding one time items which have been favorable both this year and last year, earnings improved from $1.41 per share to $1.61 per share, a penny higher than analysts were expecting.

Looking Into The Quarterly Performance

Conoco was pleased with the performance as reported production came in at 1.59 million barrels of oil-equivalent per day. Excluding the assets to be divested in Libya, production came in at 1.56 million barrels, a 6.5% increase from last year. Of the 95 thousands barrel of oil-equivalent in net production growth, 60k related to new projects and the remainder thanks to lower downtime.

On top of reported production growth, Conoco benefited as well from improved realized prices at an average of $70.17 per barrel of oil equivalent, up from $66.82 realized last year.

The ¨Lower 48¨ segment reported production of 540k barrels per day, a 49k improvement from last year. The Eagle Ford and Bakken plays drive growth with production increasing by 38% on an annual basis.

Production in Canada was up by 13 thousand barrels to 284k barrels per day thanks to a better operating performance and lower maintenance activities. This was offset by a modest decline in production in Alaska which fell to 193k barrels per day. Next to Lower 48, another bright spot was Europe which reported production of 213k barrels, some 40 thousands barrels more compared to last year. Less downtime, but also new projects had a big impact on reported production.

In Asia-Pacific, production of 322 thousand barrels was unchanged compared to last year as the company made some great progress in developing new projects. The floating production systems at Gumusut is expected in the third quarter, while progress at APLNG is moving along fine as well.

Valuation

At the end of the quarter, Conoco held $6.4 billion in cash and equivalents. At the same time, total debt stood at $21.2 billion which results in a net debt position of around $15 billion.

On a trailing basis, Conoco has posted sales of $60 billion on which it has earned little over $9 billion. With 1.24 billion diluted shares outstanding, and shares trading at $83 per share, the market is valuing the equity at $103 billion. This values equity in the business at 1.7 times annual sales and 11-12 times annual earnings.

Transformation

ConocoPhillips has been rather quick to transform the business in recent years. Following the spin-off of Phillips 66 (NYSE:PSX) in 2012, the company has become a pure exploration and production company, no longer being involved in the downstream segment of the business.

On top of the spin-off the company has shed major assets as well including the $1.5 billion sale related to assets in Nigeria, and past divestments in Kazakhstan, generating multi-billion dollar in proceeds in the process.

The pure play as well as increased focus on domestic rapid growing production has fueled a lot of enthusiasm in its shares. Following the spin-off shares traded around $50 in the spring of 2012, to rise to highs of $75 later in 2013. After a correction to lows of $64 in February, shares have been on a continued march higher, trading as high as $87 in recent weeks.

Given the strategy, Conoco is positioning itself between the highly speculative exploration and production companies which typically lack scale, are leveraged and show rapid growth. At the same time it also has characteristics of an integrated oil major in terms of size, appealing dividends, while no longer being involved in the lower margin and more volatile downstream and chemical businesses.

Final Recommendation

Conoco remains appealing in the long run, combining both production growth with a 3.5% dividend yield. The company has not bee active in repurchasing its shares in recent times, unlike many other oil companies, which reduces the total ¨yield¨ to investors.

Back in June, I last checked out Conoco's prospects following an upgrade by Howard Weil. I concluded that I fully agree with the upgrade in the long run, but thought the timing was not so great, given the huge run-up from February's lows.

Part of this appeal is driven by the large anticipated increase in operational cash flows as capital expenditures are seen flat or slightly lower in the coming years. This should result in cash flows exceeding net earnings by a comfortable margin for some years to come, providing the company with a lot of cash to return to investors.

As such I continue to like shares for the long run, but am awaiting a nicer trading level in the $75-$80 region, before adding to my position. I simply think the momentum over the past few months has been a bit too strong.

Disclosure: The author is long COP. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

Source: ConocoPhillips - Company Remains On Its Long Term Growth Track, Add On Dips