ConocoPhillips Has To Get There First

| About: ConocoPhillips (COP)

Summary

The balance sheet emphasis is good and timely.

The newly announced discovery is a step in the right direction.

The share repurchase goal may run counter to the first two goals. At least it will require additional property sales or other liquidity raising activities.

Management finally appears to have gotten the "lowest cost producer" bug.

A focus on future profitability, increasing cash flow, and lowering debt will benefit shareholders more than current stock repurchases.

A little while back, a decent sized discovery caused some positive reactions.

In a follow-up to the Willow discovery, ConocoPhillips (NYSE:COP) and its bidding partner, Anadarko (NYSE:APC), were successful in December's federal lease sale on the western North Slope, winning 65 tracts for a total of 594,972 gross acres. ConocoPhillips independently was successful in December's state lease sale on the western North Slope, winning 74 tracts for a total of 142,280 gross acres.

In a follow-up to the Willow discovery, ConocoPhillips and its bidding partner, Anadarko, were successful in December's federal lease sale on the western North Slope, winning 65 tracts for a total of 594,972 gross acres. ConocoPhillips independently was successful in December's state lease sale on the western North Slope, winning 74 tracts for a total of 142,280 gross acres.

All of this and more is good and significant. Some other large wells are expected to come online sooner. But ConocoPhillips is a large company and the full benefit of the expenditures in this area may not be felt for some years. The recent discovery, for example will not be expected to produce until 2023. There are two wells that may produce earlier and help with the cash flow situation. But this is a relatively giant cash eating project. So the company first has to get to the cash flow nirvana. To wait a decade or so for full benefits can be typical for these large projects. Just like the main oil pipeline has to make it to the increasing production to help with the pipeline maintenance and costs. The grass definitely looks greener on the other side for good reason, but the market may not have the patience to wait for the benefits.

Already, the stock appears to be retreating from the announcement euphoria. So investors may need to note that current events may weigh more than promised future benefits.

Source: ConocoPhillips Goldman Sachs Energy Conference January 17, 2017 Presentation Slides

As shown above there are several conflicting goals. Cash flow is not going to cover all of the top goals, so there is going to have to be more property sales. Especially to pay down the debt. A new discovery like the one listed above has to complete for cash with the current portfolio. The odds are that it will compete for cash unless there is a future disappointment. But that means that one or more portfolio projects has now become "non-core" and will be sold to raise cash.

Buying shares really makes no sense in this scenario. Because the company is sending the market a signal that it makes more money retiring its shares than it can producing oil. It may also be telling the market that the company future is also dim. It puts an unnecessary caution light on new discovery announcements. If this was the top of the market where the cash was rolling in and looked like it would roll in for years to come, then maybe share buybacks make sense. Companies never seem to wait for the bottom of the next industry recession to do share buybacks.

Right now, the company supposedly has a bunch of highly profitable projects to build upon. Costs are coming down, and the future looks brighter. Best of all, management appears to finally be getting the "lowest cost producer" bug. In the long run, shareholders will receive far more benefits from the operational improvements and great discoveries than from share buybacks. These share repurchases mean additional production and acreage must be sold at a possible cost to the future potential of the company. Shareholders have to wonder if this means that the portfolio has more dead weight than management has admitted to already.

So while that discovery certainly was good and will probably be very material to the company. If management is not careful, all those benefits will simply undo the haste put into premature share buybacks. Right now, the balance sheet emphasis means that cash flow needs a lot of attention and really all efforts should be directed towards that. Otherwise the capital gains will gradually disappear for a few years until the company gets its house in order.

Disclaimer: I am not an investment advisor and this is not a recommendation to buy or sell a security. Investors are recommended to read all of the company's filings and press releases as well as do their own research to determine if the company fits their own investment objectives and risk portfolios.

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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