Continental Resources: Earnings Show A Lot To Like About This Undervalued E&P

May 11, 2022 7:38 AM ETContinental Resources, Inc. (CLR)2 Comments


  • Continental Resources posted very impressive results showing strong year-over-year growth.
  • The company's excellent performance was generally expected given today's high energy prices.
  • The company benefited from rising production, which will likely continue and drive growth over the rest of the year.
  • Continental Resources has a very strong balance sheet with low leverage and very staggered debt maturities.
  • The stock appears to be incredibly undervalued relative to the company's earnings per share growth.
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Oil Well With Drilling Rigs And Pumpjacks

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On Wednesday, May 4, 2022, independent exploration and production firm Continental Resources, Inc. (NYSE:CLR) announced its first-quarter 2022 earnings results. The energy sector in general has been one of the few bright spots in the market this year as high energy prices have caused many energy firms to post fantastic earnings and cash flow figures. We certainly see this in Continental Resources' first-quarter results, which showed significant year-over-year revenue growth along with a jaw-dropping increase in net income. Continental Resources also upped its guidance, which is a very clear sign that it expects its current good fortune to last for quite some time. It is hardly alone in this as the general sentiment across the industry and among analysts is that energy prices will remain quite strong. The company does overall still express caution in its growth attempts but this is understandable after the past decade. Continental Resources has long been one of the best independents in the industry and we certainly see that reflected in these results.

As my long-time readers are no doubt well aware, it is my usual practice to share the highlights from a company's earnings report before delving into an analysis of its results. This is because these highlights provide a background for the remainder of the article as well as serve as a framework for the resultant analysis. Therefore, here are the highlights from Continental Resources' first quarter 2022 earnings report:

  • Continental Resources reported total revenues of $1.816238 billion in the first quarter of 2022. This represents a substantial 49.38% increase over the $1.215815 billion that the company reported in the prior-year quarter.
  • The company reported an operating income of $866.217 million in the most recent quarter. This represents a 113.51% increase over the $405.698 million that the company reported in the year-ago quarter.
  • Continental Resources produced an average of 373,810 barrels of oil equivalents in the reporting period. This represents a 21.39% increase over the 307,942 barrels of oil equivalents per day that the company produced on average in the equivalent quarter of last year.
  • The company increased its dividend to $0.28 per share quarterly. This is the company's fifth consecutive dividend increase.
  • Continental Resources reported a net income of $597.757 million in the first quarter of 2022. This represents a significant 130.22% increase over the $259.642 million that the company reported in the first quarter of 2021.

It seems essentially certain that the first thing that anyone reviewing these highlights will notice is that basically, every single measure of financial performance showed improvement compared to the prior-year quarter. It is likely that everyone expected this because it was mostly driven by the fact that crude oil prices are much higher now than they were at the same time last year. We can see quite clearly in this chart just how much higher West Texas Intermediate crude oil prices are today than last year:

Crude Oil - 1 Year

It should be obvious how this surge in prices will cause Continental Resources' financial performance to improve. After all, if the company can sell its products for a higher price then it will bring in more revenue overall, all else being equal. The fact that more money is coming in the door means that more money is available to make its way down to profits and cash flows. As investors, it is generally profits and cash flows that we are most interested in so the company's strong performance here is something that we can appreciate.

However, all else is rarely equal in this industry. As we can see in the highlights, Continental Resources' production was higher in the most recent quarter than it was a year ago. This was especially true in the case of crude oil. Continental Resources produced an average of 194,767 barrels of crude oil per day in the first quarter of 2022 compared to 151,852 barrels of crude oil per day in the year-ago quarter, a 28.26% increase. This also had a significant effect on Continental Resources' financial performance in a positive way. It should be fairly easy to see how. After all, the fact that Continental Resources had more production meant that it had more products to sell and earn money from. When we combine this with the higher prices that the company was able to obtain for its products, we get the sort of admirable year-over-year revenue boost that Continental Resources delivered in these results.

In my last article on Continental Resources, I stated that the company was considering cautiously increasing its production if energy prices were likely to remain consistently high. This was a change from the company's previous strategy of holding production steady while focusing on maximizing its free cash flow. It does appear that the company is now going through with its plans to grow production, albeit not at an especially rapid rate. During the earnings conference call, Continental Resources increased its production guidance for 2022, stating that the company expects that its crude oil production should average 200,000 to 210,000 barrels of crude oil per day over the course of the year. This would represent a 2.69% to 7.82% increase over the company's first-quarter 2022 production levels. This should prove to be a source of growth over the rest of this year for reasons that were discussed in the last paragraph.

Continental Resources is doing much more than simply relying on rising oil prices and production growth in order to improve the returns that it can provide to its investors. One of the most important of these is that Continental Resources has been very aggressively working to reduce its costs. As we can see here, the company has managed to reduce its cost of supply by 30% since 2015:

Continental Resources Cost of Production

Continental Resources

This is important for two reasons. The first of these is that the lower the company's costs, the less of its revenue is being consumed by these production costs. That allows more money to flow down to the bottom line or ultimately to its investors. The second reason is that the lower the company's production costs, the lower crude oil prices can decline before it becomes unable to produce profitably. This thus provides the company with a certain amount of protection against commodity price volatility. Admittedly, there are few people that are really thinking about a decline in energy prices right now (and as I pointed out before, the long-term prognosis is that energy prices will rise) but there is increasing talk among analysts that the economy may enter a recession by the end of the year. If a recession does occur, then it may cause a temporary decline in energy prices. Continental Resources' low production costs should help the company weather such a situation. Until that event happens though, Continental Resources' long history of reducing costs means rising margins for investors, which is very nice.

One of the nicest things about Continental Resources is that it has a remarkably low level of debt. We can see this by looking at the company's leverage ratio, calculated as net debt-to-trailing twelve-month EBITDAX. This ratio essentially tells us how many years it will take the company to completely pay off its debt if it were to devote all of its pre-tax cash flow to this task. The company reduced its debt by $264 million in the first quarter of 2022 and is now on track to get this ratio down under 1.0x by the end of the second quarter. This is a very reasonable ratio that is among the best in the sector. Although it is admittedly not certain that the company will be able to actually achieve this, it does seem likely that it will barring something like a steep decline in crude oil prices within the next month. That scenario seems extremely unlikely, to say the least.

Another nice thing about Continental Resources' debt situation is that its maturities are quite staggered. As we can see here, Continental Resources does not have an outsized amount of debt maturing in any given year:

Continental Resources Debt Schedule

Continental Resources

The reason that this is nice to see is that the company will need to pay off its debt as it matures. While this can be done with cash, there is no guarantee that the company will always have sufficient cash on hand to do that. As such, it may have to rely on issuing new debt to pay off the maturing debt. There may be times when the market is not especially welcoming to purchasing the debt of Continental Resources or the energy industry in general. This could certainly be the case during times of low energy prices. If the company were to try to issue large amounts of debt at that time, it may prove difficult to do, which would obviously be very bad for the company. This risk is greatly reduced if the company only has a small amount of debt to deal with at any time. Thus, Continental Resources' staggered maturity schedule combined with its low leverage relative to cash flow should greatly reduce the risks related to the company's debt.

It is always critical that we do not overpay for any asset in our portfolios. This is because overpaying for any asset is a surefire way to generate a suboptimal return on that asset. Fortunately, Continental Resources certainly looks to have a very attractive valuation at its current level. One way that we can see this is by looking at the stock's price-to-earnings growth ratio. This is a modified form of the familiar price-to-earnings ratio that takes the company's earnings per share growth into account. When this ratio is below 1.0, it is a sign that the stock may be undervalued relative to its earnings per share growth. Continental Resources certainly qualifies here. According to Zacks Investment Research, Continental Resources will grow its earnings per share at a 35.34% rate over the next three to five years. This gives the stock a price-to-earnings growth ratio of 0.16 at the current price, which easily puts it into severely undervalued territory. This gives us yet one more reason to like Continental Resources today.

In conclusion, Continental Resources posted phenomenal results that showed significant year-over-year growth. Admittedly, this was expected but it was driven by more than just high crude oil prices. The company is not resting on its laurels either as it is positioned to deliver further growth over the remainder of the year. When we combine this with the company's strong balance sheet and very attractive valuation, it could prove to be a worthy addition to anyone's portfolio.

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