ConocoPhillips: Even With Capex Cut Production Growth Continues

| About: ConocoPhillips (COP)

Summary

ConocoPhillips announced that it plans to cut its capex by 20% year-over-year to $13.5 billion in 2015.

Even after ConocoPhillips spends 20% less next year, management still sees its existing production growing by 3% in 2015.

By cutting exploration programs targeting "emerging" shale plays in North America, ConocoPhillips is focusing almost exclusively on the Eagle Ford and Bakken/Three-Forks formations.

On December 8, ConocoPhillips (NYSE:COP) announced that it plans to cut its 2015 capex budget by ~20% (relative to 2014 levels) to $13.5 billion. In other words, ConocoPhillips is going to reduce its estimated 2014 capex budget of $16.7 billion by ~$3.2 billion next year. During the first nine months of 2014, ConocoPhillips spent $700 million more on capex, dividends, and interest payments than it took in. This large cut shows that ConocoPhillips is being more realistic in the current pricing environment and is willing to shore up its financials when it has to.

The budget cut was widely expected, as crude prices have fallen from over $100 a barrel to under $70 a barrel over the course of the past several months. What is important to take away from this is that even though ConocoPhillips plans to spend $3.2 billion less next year, it still expects its production to grow by 3% (excluding Libya) relative to 2014 levels.

Delay exploration, focus on production
To do this, Conoco is reducing exploration funding for emerging shale plays while preserving funds for developing mature plays. Next year, Conoco will spend $5 billion on its development drilling program versus an estimated $6.5 billion this year. Most of those cuts will come from its unconventional exploration drilling programs. An excerpt from the press release;

Will defer significant investment in the emerging North American unconventional plays, including the Permian, Niobrara, Montney and Duvernay.

By significantly cutting its exploration funding, Conoco is delaying the discovery of new reserves in other shale plays. This isn't a bad thing, as Conoco has plenty of resources to develop already in its two core plays, the Eagle Ford and the Bakken/Three-Forks. In the Eagle Ford, Conoco sees over 3,000 potential drilling locations capable of targeting ~2.5 billion BOE of net recoverable resources. Up in the Bakken/Three-Forks, Conoco has over 1,800 possible drilling locations that will target 600 million BOE of net recoverable reserves. Another excerpt;

In 2015, the Lower 48 development program capital will continue to target the Eagle Ford and Bakken.

This implies that Conoco plans to keep its 2015 development budget for these plays at similar levels to 2014. Conoco is able to do so considering its core shale operations have an average breakeven price of $40 a barrel or lower. On January 29, Conoco will give investors a better picture of what its 2015 spending levels will really look like when it reports fourth quarter earnings. After that on April 8, Conoco will be able to give a definitive answer on what its financials will look like during its Analyst Day.

ConocoPhillips is making the right move by holding back on exploration spending. With plenty of resources in its two core shale plays, there is no reason it has to rush out and find more hydrocarbons just for the sake of finding new reserves. Other E&P operators will continue to explore the plays Conoco is cutting back on, and Conoco can leverage any new information or technological improvement the industry acquires during that time.

Other cuts
Aside from the cuts to its development drilling program, Conoco is cutting its exploration and appraisal budget by $400 million. That would bring its total down to $1.8 billion next year. A large chunk of that money will go towards exploring the Gulf of Mexico, Nova Scotia, and West Africa.

Spending on major projects is estimated to fall by $1 billion to $4.8 billion next year. This is due to Conoco having to spend less on its APLNG (Australia LNG project) and Surmont 2 (Canadian oil sands) projects as they come close to completion, and less so as a reaction to lower oil prices. Going forward, Conoco will most likely hold off on any new big projects until the global oversupply of crude starts to diminish.

The final segment Conoco is cutting is its base maintenance, which will see its budget fall by $300 million to $1.9 billion next year. By pushing back spending on its producing assets, Conoco is saving future production for a time when prices are higher.

Final thoughts
If higher prices return next year, ConocoPhillips has plenty of flexibility to increase its spending to push up growth. ConocoPhillips is smart to get out in front of its problems early on and admit to investors that it needs to spend less. This removes uncertainty around its dividend and future debt load, making ConocoPhillips a better stock in the process. Investors who want to read more about how ConocoPhillips' shale operations will survive OPEC's war on shale should take a look at ConocoPhillips' Shale Operations In The Face Of Sub-$70 WTI.

After this announcement I remain bullish on ConocoPhillips, as this 4.5% yielding juggernaut still plans to boost output from its existing operations by 3% next year, even after spending 20% less.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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.

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