ConocoPhillips Starts A New Project In The North Sea That Might Not Yield Great Returns In The Current Oil Price Environment

ConocoPhillips (NYSE:COP) recently announced the start-up of production from the Eldfisk II project. Located in the Norwegian North Sea, the Eldfisk field is a part of the Greater Ekofisk Area, which has been operational since 1971. The Eldfisk II is an expansion project that aims to increase the ultimate resource recovery from the Eldfisk field, which has been in production since 1979, by tapping additional reserves. However, under the current crude oil price environment, the project is not expected to yield significant returns for ConocoPhillips in the short to medium term. ^[1]

ConocoPhillips is the world’s largest independent exploration and production company by proved reserves and annual production. Its average daily hydrocarbon production from continued operations stood at 1,473 thousand barrels of oil equivalent (MBOED) during the third quarter of 2014, and it had proved reserves of around 8.9 billion barrels of oil equivalent (BOE) at the end of 2013. Headquartered in Houston, Texas, the company has operations in 27 countries, generating annual sales revenue of around $60 billion.

We currently have a $70 per share price estimate for ConocoPhillips, which is around 12.6x our 2015 full-year adjusted diluted EPS estimate for the company.

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ConocoPhillips plans to increase its net hydrocarbon production from continuing operations by around 3% y-o-y in 2015. As a part of the plan, the company is making investments in starting up production from new projects in international markets and ramping up the development of its unconventional reserves in North America. The Eldfisk II along with the Ekofisk South development project, which came online in October 2013, is aimed at boosting ConocoPhillips’ net hydrocarbon production from the Norwegian North Sea by around 60 MBOED. The project is expected to increase gross production from the Eldfisk field, which produced around 34 MBOED in 2013, by around 70 MBOED at its peak. ConocoPhillips is the operator of the Greater Ekofisk Area that includes four producing fields: Ekofisk, Eldfisk, Tor, and Embia with a 35.1% interest. Other stakeholders in the project include Total (NYSE: TOT) (39.9%), Eni (NYSE:E) (12.4%), Statoil (NYSE:STO) (7.6%), and Petoro (5%). ^[2]

However, given the current crude oil price environment due to slower demand growth and ample supplies, we believe that these project developments might not yield significant returns for ConocoPhillips in the short to medium term. During an investor presentation in late-2013, the company guided that the Ekofisk South, Eldfisk II, and other development projects in Norway would yield cash margins of around $40 per barrel of oil equivalent by 2017, assuming the price of crude oil (in 2013 real dollars) to be at $100 per barrel, and would require $4 billion in capital investments. However, under the current scenario, we expect crude oil prices (Brent) to average just around $85 (nominal) per barrel in 2017. This implies that ConocoPhillips might only generate cash margins of around $20 per barrel of oil-equivalent incremental production from these projects in 2017, yielding a return on investment of just around 10%. ^[3]

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1. ConocoPhillips Announced First Oil Production From the Eldfisk II Project, conocophillips.com [↩]
2. Eldfisk Oil and Gas Field, North Sea, Norway, offshore-technology.com [↩]
3. Bank of America Merrill Lynch Global Energy Conference, conocophillips.com [↩]