Just like many oil stocks, Callon Petroleum (NYSE:CPE) shares have been in a downtrend, and there are both company-specific and external reasons why the stock is likely to head towards and possibly test the 52-week low around $3.02 per share. While some investors seem sure about their investment in this company, there are several reasons why the stock could continue to face considerable challenges. First, let's consider some the external challenges, followed by company-specific issues:
1. The markets are dropping significantly, and so is the price of oil. Investors are back to dumping stocks, and stocks in the oil sector are getting hit hard for good reason. The recent slowdown in the global economy is showing up everywhere, Europe, China and the United States. There appears to be no question that we will see reduced demand for energy in the coming months, the only question is how much.
2. Oil prices and many oil sector stocks were sent to inflated levels earlier this year. This was driven by a speculative belief that an oil supply disruption would occur due to issues in the Middle East. Many investors also believed that the U.S. economy was poised for a strong rebound, and that even inflation could creep up. However, there has been no significant supply disruptions, the economy is seeing weakness that appears to be accelerating to the downside, and there are new signs of deflation that could keep downward pressure on oil.
3. The United States recently hit a 22-year high in oil inventories. With the combination of increased drilling in the Gulf of Mexico and other areas, plus new drilling technologies, the country is seeing plenty of production. When you combine high oil inventories with excess production and a slowing economy that is probably headed back into recession, the most likely resolution is much lower prices.
4. The European debt crisis is clearly spreading to larger countries like Spain. The situation is like a small wildfire that seems containable at first, but then potentially grows to levels that no one can control. The European situation is looking a lot like the pre-Lehman moment of the financial crisis in the U.S., in which major institutions collapsed and runs on the bank were becoming the norm. The U.S. acted quickly and contained the damage, but with so many countries involved in Europe the chance of a quick resolution looks less likely. If major banks collapse in Europe, the damage will spread to the U.S. and other countries further dampening both stock and oil prices. If Europe drives the world into another severe financial panic, Callon shares could drop significantly. During the week of March 2, 2009, Callon shares traded down to 94 cents. Even if the worst case scenarios don't play out in the markets, the stock could still be poised to test the lows it hit last October where it traded around $3 per share. Many oil stocks are now trading at or near 52-week lows, and Callon could poised to follow.
Now let's consider some potential company-specific issues:
1. The company reported weak earnings for the first quarter of 2012. The company earned roughly $500,000 or about 1 cent per share. This was a sharp decline from the $4.2 million or 12 cents per share it earned in the same quarter of 2011. Oil prices were very strong in the first quarter of 2012. If the company is not turning out significant profits when oil prices are high, it could have even more disappointing results as oil prices have dropped about 20% in the past few weeks. Earnings estimates for 2012 are just around 19 cents per share.
2. Insider ownership does not seem to show a heavily vested interest by Callon management. In fact, according to Yahoo Finance, one executive has no shares, and Fred Callon only has about 84,000 shares, which has a total current value of just about $330,000. Mr. Callon is the Chairman and CEO of the company, and it's hard to understand why he directly holds a relatively small position in the company that bears his name. According to Yahoo Finance, Mr. Callon receives compensation of nearly $1 million per year, and other executives are earning significant sums as well. According to these numbers, it appears that Mr. Callon's stake in the company is equivalent to about 3 months of his compensation, which seems curiously low.
3. The company has a history of raising capital, and it did a secondary offering last year. In February of 2011, the company sold about 9 million shares which raised over $65 million. But just over a year later, with the balance sheet showing only about $9.93 million in cash, and debt levels of around $125 million, the company might need to consider another secondary in the future. When the global economy appears to be headed for trouble and de-leveraging, investors should consider investing in cash-rich companies with little or no debt, if they invest at all.
The stock might appear "cheap" after the recent drop, but with so many issues looming and with no signs of a break in the downtrend, the shares could be a proverbial "falling-knife". The stock is now barely above $4, and that level could be broken soon.
Key Data Points For Callon Petroleum From Yahoo Finance:
Current Share Price: $4.03
52-Week Range: $3.02 to $7.95
2012 Earnings Estimate: 19 cents per share
P/E Ratio: about 20 times earnings
Data is sourced from Yahoo Finance. No guarantees or representations are made. Please consult a financial advisor before making investments.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.