Anadarko Petroleum: Efficiency Improvements To Drive Higher Returns In The Long Run

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Anadarko Petroleum

Anadarko Petroleum (NYSE:APC) recently announced its 2015 second-quarter results. As expected, the company’s profitability and operating cash flows were significantly impacted by lower price realizations. Not only did the benchmark crude oil prices fall by more than 44% during the second quarter, but even the Henry Hub spot prices for natural gas in the U.S. declined sharply because of oversupply. Although the company’s crude oil sales volume growth was quite impressive, with volumes from its key growth asset – the Wattenberg field – achieving a significant milestone, averaging 101 thousand barrels per day (MBD) for the quarter, lower commodity prices more than offset that. As a result, Anadarko earned a second-quarter profit of just about $4 million, or $0.01 per share, on an adjusted basis. This compares to a profit of $1.32 per share in the year-ago quarter. However, going forward, we expect efficiency gains and a sustained recovery in commodity prices to drive higher returns for the company in the long run. [1]

Anadarko primarily operates in three segments: oil & gas exploration and production, midstream, and marketing. Its asset portfolio includes positions in onshore resource plays in the Rocky Mountains region, the southern United States, and the Appalachian basin. The company is also an independent producer in the Deepwater Gulf of Mexico, and has production and exploration activities globally, including positions in high potential basins located in East and West Africa, Algeria, Alaska, and New Zealand. At the end of 2014, Anadarko had proven reserves of almost 2.86 billion barrels of oil equivalent. Based on the recent earnings announcement, we have revised our price estimate for Anadarko to $87 per share, which is about 15% above its current market price.

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See Our Complete Analysis For Anadarko

Lower oil prices strap independent oil and gas companies for cash, as their profitability and cash flows per barrel of oil drop significantly. This also reduces their ability to reinvest in their business, which is extremely capital-intensive in nature, and completely derails existing growth plans. However, companies that have the financial strength and the optionality to see through the commodity cycle trough, emerge out of it much stronger and leaner than they entered it. Anadarko is on its way to be one of those companies in this down cycle. That’s primarily because of the company’s sharp focus on driving efficiency gains that will not only help it produce more for less, but also enhance its financial flexibility to pursue new, bigger, growth opportunities.

One of the key takeaways from Anadarko’s second-quarter earnings release was the significant improvement in drilling and completion efficiencies in most of the U.S. onshore plays it operates in. During the earnings conference call, Anadarko officials mentioned that they have been able to bring down the drilling cost in the Wattenberg field by almost 35% over the past six months. They also announced that the company’s rig efficiency in the field has doubled over the last year, which essentially means that the company is now drilling the same number of wells using half as many rigs, compared to last year. The efficiency improvements are not limited to Anadarko’s Wattenberg field operations alone. The company has been able to reduce its drilling costs by about $0.5 million per well and completion costs by around 45%, compared to last year. The impact of these efficiency improvements on Anadarko’s overall performance in this unfavorable commodity price environment can be assessed from the fact that these savings will enable it to drill around 100 more wells this year, without exceeding the capital budget for the year. [2]

A large part of this reduction in costs could be attributed to the employment of the most efficient drilling rigs and frac crews to do fewer wells, and lower service costs, which are both cyclical in nature. However, some of the efficiency gains were also driven by process improvements in drilling and completion techniques. The company officials said that they see significant scope to continue to drive efficiency gains through process improvements in the long run, which essentially means a sustained decline in capital costs per well and consequently per unit production. These efficiency gains are expected to ease the path towards cash flow neutrality for Anadarko, thereby increasing its financial flexibility. We have therefore revised down our long-term capex forecast for the company, while maintaining approximately the same level of production growth estimates. This is one of the key reasons driving the change in our price estimate for Anadarko to $87 per share. [1]

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Notes:
  1. Anadarko Announces Second-Quarter 2015 Results, anadarko.com [] []
  2. Anadarko 2Q15 Earnings Conference Call, anadarko.com []