ConocoPhillips - That Wasn't Bad At All

| About: ConocoPhillips (COP)

Summary

ConocoPhillips has recently reported fifth quarterly loss in a row.

The company ended up missing analysts' consensus profit and revenue estimates.

But there were four positives - including a major one.

ConocoPhillips (NYSE:COP), the world's largest independent oil and gas producer, saw its losses balloon six times in the second quarter as compared to the same period last year, thanks to persistent weakness in commodity prices.

During the quarter, ConocoPhillips produced 1.546 million barrels of oil equivalent per day, an increase of 1.5% from a year earlier, after adjusting for asset sales. The revenues, however, fell 35.6% to $5.57 billion as the total realized price for all commodities fell from $39.06 to $27.79 per barrel of oil equivalent. The Houston company's loss widened from $179 million to $1.1 billion, which was its fifth quarterly loss in a row. Excluding the impact of one-off items, including impairment charges, the company lost $0.79 per share in the second quarter, down from a profit of $0.07 per share in 2015. The company ended up missing analysts' consensus estimate of a loss of $0.61 per share from revenues of $6.62 billion.

The company's results were significantly below Wall Street's expectations. However, there were a few positives as well.

-1- During the three months ended June, the oil production from Canada was severely hit due to the devastating wildfires which knocked off more than a million barrels a day of production. ConocoPhillips's Surmont facility in Canada, which is a 50-50 joint venture between ConocoPhillips and French oil major Total SA (NYSE:TOT), had to be closed for more than a month and the company ended up losing 17,000 boe per day of potential volumes. That should have hit ConocoPhillips's quarterly output, but the company ended up edging past its pre-wildfire guidance of between 1.50 million and 1.54 million boe per day. The company's output received a boost from recently completed projects, such as Foster Creek Phase G.

-2- ConocoPhillips has managed to slightly improve its financial health from the first quarter, though it is eyeing meaningful improvements in the future. Debt was down by $778 million from the first quarter to $28.68 billion in the second quarter. The company still has a lot of work to do as its leverage, measured in terms of debt-to-capital ratio, still hasn't budged, staying at 43% throughout the previous two quarters.

ConocoPhillips, however, has sold $400 million of assets in the first half of this year in order to bolster its balance sheet and says that it remains on track to sell $1 billion of assets this year. The company is also committed to bringing the debt down to $25 billion in the near future, which could bring its leverage down to more reasonable levels of mid-30s.

-3- ConocoPhillips expects to produce more oil and gas this year by spending less, thanks in part to efficiency gains. The company has reduced this year's capital spending plan by $200 million from its previous guidance and by $2.2 billion from its initial estimate released in December to $5.5 billion. Despite the large reduction in the budget, ConocoPhillips believes that it can now produce 1.54 million to 1.57 million boe per day, as opposed to its previous estimate of around 1.525 million boe per day.

-4- In the second quarter, ConocoPhillips generated enough cash to fully fund its capital spending and 40% of its dividends. In other words, ConocoPhillips actually generated free cash flows.

ConocoPhillips has talked about its ability to balance cash flows at $45 oil. At this level, the company believes that it can generate enough cash flows to cover its capital spending as well as dividends,though it also needs support from other commodities as well (such as NGL and natural gas).

In the second quarter, oil prices gained by more than 36% on a sequential basis and both Brent and WTI average more than $45 a barrel. The price of natural gas, however, hasn't risen as sharply. Rather, ConocoPhillips's realized price for natural gas actually fell 16.7% sequentially. That meant that ConocoPhillips couldn't fully capitalize from the rise in commodity prices. Still, you'd expect ConocoPhillips to significantly improve its cash flow balance at $45 oil, even without any support from natural gas prices, since almost 60% of the company output consists of crude oil and other liquids. And that's exactly what ConocoPhillips has done.

In the second quarter, the company generated $1.26 billion as net cash from operations, which was enough to cover capital expenditure and investments of $1.13 billion, leading to free cash flows of $126 million. That's a big turnaround for a company that is not known for living within its means. In the first quarter of this year, the cash flow deficit was $1.4 billion. In the second quarter of 2015, the shortfall was $433 million.

ConocoPhillips still can't fund both, the capital spending and dividends. After accounting for $313 million of dividends, the cash flow shortfall was $187 million. But this deficit is significantly smaller as compared to what we've seen in the previous quarters ($1.34Bn in 2Q15, $1.71Bn in 1Q16). In fact, the company has come within a touching distance of hitting cash flow neutrality. It has demonstrated that at $45 oil and with some support from natural gas price, it can bring its cash flows into balance.

Takeaway

Although ConocoPhillips has posted fifth quarterly loss in a row and missed analysts' expectations by a wide margin, its production came ahead of guidance, financial health improved slightly and the company aims to produce more oil by spending less. More importantly, ConocoPhillips generated positive free cash flows and has shown that it can generate enough cash to fund both capex and dividends at $45 oil. For these reasons, I believe ConocoPhillips is looking much better following the latest earnings release.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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Tagged: , Oil & Gas Drilling & Exploration, Earnings
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