ConocoPhillips First-Quarter Report: Lower 48 Drives Production Growth But Slowdown Imminent

ConocoPhillips (NYSE:COP) recently announced its 2015 first-quarter earnings. As expected, the company swung to a loss as lower price realizations more than offset the impact of higher net production and better volume-mix. The company’s earnings per share (EPS), adjusted for non-operating items, declined to a loss of -$0.18. ^[1] In addition to lower price realizations, primarily due to the recent decline in oil prices, the company’s earnings were also impacted by more than a 350% increase in dry hole expenses. However, the loss could have been much wider if not for higher net production, primarily driven by its ongoing unconventional development program in the Lower 48 states of the U.S., and a 12% year-on-year reduction in operating costs, adjusted for restructuring charges. In response to the changed crude oil price environment, ConocoPhillips has slashed its annual capital spending budget by more than 28% and has set a goal to reduce its annual operating costs by more than a billion dollars, from the 2014 base, over the next couple of years. ^[2]

ConocoPhillips is the world’s largest independent exploration and production company by proved reserves and annual production. Its daily net hydrocarbon production from continuing operations, excluding Libya, averaged 1,532 thousand barrels of oil equivalent (MBOED) last year, and it had proved oil and gas reserves of around 8.91 billion barrels of oil equivalent (BOE) at the end of 2014. Headquartered in Houston, Texas, the company has operations in 27 countries, generating annual sales revenue of more than $52 billion. Based on the first-quarter earnings announcement, we have revised our price estimate for ConocoPhillips to $63/share, which is around 5% below its current market price.

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Lower 48 Drives Production Growth But Slowdown Imminent

The biggest positive for ConocoPhillips’ investors in the company’s first-quarter performance was the 5% growth in net oil and gas production from continuing operations, excluding Libya and adjusted for downtime and divestiture-related variance. As expected, a large majority of this growth came from the ongoing development of its onshore assets in the Lower 48 states of the U.S., where the company has made some great progress recently. ConocoPhillips’ net crude oil production from the Lower 48 states has grown from around 117 thousand barrels per day (MBD) in 1Q 2012 to 198 MBD in 1Q 2015, a growth of almost 70%. During the first quarter, almost 43% of the total net year-on-year production growth of around 82 MBOED came from its operations in the Lower 48 states, where the company is focusing on the development of its acreage in the Eagle Ford and the Bakken/Three Forks shale plays. Production from the Lower 48 states at 542 MBOED was up by around 6.9% y-o-y. ^[2]

However, in view of the changed crude oil price environment, ConocoPhillips is now ramping down its unconventional reserves development program in the Lower 48 region. This is in line with the broader shale oil industry in the U.S. The number of active oil rigs in the U.S. has fallen sharply over the past few months after oil prices slumped due to oversupply, primarily driven by surging tight oil production in the U.S., and the Organization of Petroleum Exporting Countries (OPEC) decided to maintain their production, with clear intentions of decelerating the growth in U.S. crude oil production. The chart below highlights the trend in the number of active oil rigs in the U.S. and the WTI crude oil price. ^[3]

During the first quarter earnings call, ConocoPhillips announced that it currently has just 15 operated rigs active in the Lower 48 states, down more than 50% from the end of last year. As a result of fewer active rigs, the company expects its net production growth from the region to also start slowing down and eventually turn negative in the second half of the year. Therefore, despite a 5% growth in the first quarter itself, ConocoPhillips maintained a 2-3% overall net production growth guidance for the full year. ^[2]

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1. ConocoPhillips Reports First-Quarter 2015 Results; Strong Operational Performance Offset by Weak Commodity Prices, conocophillips.com [↩]
2. ConocoPhillips First-Quarter 2015 Earnings Call Presentation, conocophillips.com [↩] [↩] [↩]
3. Baker Hughes North America Rig Count Data, bakerhughes.com [↩]