Chevron’s First-Quarter Report: Solid Upstream Production Growth Masked By Lower Oil Prices

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Chevron (NYSE:CVX) recently announced its 2015 first-quarter earnings. As expected, lower oil prices more than offset the earnings impact of higher net upstream production and thicker downstream margins. The company’s earnings per share (EPS), adjusted for the impact of currency translation and asset dispositions, declined by more than 70% year-on-year to just $0.76. Cash capital expenditure was down 11% to $7.6 billion during the quarter, in line with the lower budget for the year, because of the changed crude oil price environment. However, the company reaffirmed and made some good progress overall on its short to medium-term net upstream production growth target. [1]

California-based Chevron is the second largest energy company in the U.S. after Exxon Mobil (NYSE:XOM). The company manages its investments in subsidiaries and affiliates, for which it provides administrative, financial, management, and technological support. This extends both to its U.S. subsidiaries and to its international subsidiaries, engaged in fully integrated petroleum, chemicals, and mining operations, as well as power generation, and energy services. Last year, it generated sales and operating revenue of more than $200 billion, with a consolidated adjusted EBITDA margin of approximately 25%, by our estimates. We currently have a $106/share price estimate for Chevron, which is almost 25.2x our 2015 full-year adjusted diluted EPS estimate of $4.21 for the company.

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Upstream Production Growth Story On Track

The key takeaway from Chevron’s first-quarter earnings announcement, was that despite the changed crude oil price environment, over which it has little control, and its impact on the company’s capital spending program and desire to conserve cash for shareholder distributions, its net upstream production growth story remains intact and is progressing well. During the first quarter, Chevron’s total net upstream production grew by almost 3.6% year-on-year, which is huge for an oil and gas company its size. Some of the growth in net production came as a result of higher entitlements from projects under production-sharing agreements (PSAs). There was also an offsetting impact of some assets it had sold last year and others that were offline during the quarter due to repair and maintenance work. However, even after adjusting for the impact of these two factors, the company’s net oil and gas production grew by around 56 thousand barrels of oil equivalent per day (MBOED) or approximately 2.2% y-o-y. [2]

The growth in Chevron’s underlying production during the first quarter was primarily driven by the ongoing ramp up of its recently-started projects and the development of shale/tight reserves in the U.S. and Argentina. In the U.S., the company is the largest undeveloped leaseholder in the Permian region with approximately 2 million net acres and 17,000 drilling prospects. It has been an operator in the region since the 1920s and this legacy position provides it with the critical access to marketing infrastructure. More importantly, Chevron is not in a drill or drop situation in the region, which will allow it to withstand lower crude oil prices without sacrificing on profitability. During the first quarter, the company’s net upstream production received a boost of 43 MBOED from increased unconventional development in the Permian and the Vaca Muerta shale in Argentina. We expect to see a similar growth in production from these assets for the rest of the year as well, since the company plans to continue the growth momentum and add approximately 160 MBOED of net production (on 2014 base) from the development of shale and tight resources by 2017. [2]

In addition to shale/tight reserves development in the U.S. and Argentina, Chevron’s first-quarter net upstream production also received a boost from the ongoing ramp up of the recently-started Jack/St. Malo and Tubular Bells projects in the U.S. Gulf of Mexico. The Jack/St. Malo project jointly developed the Jack and St. Malo oilfields, situated in Walker Ridge blocks 758,  759, and 678 of the U.S. Gulf of Mexico, with a floating production unit (FPU) located between them. Chevron holds a 50% operating interest in the Jack field, while Maersk and Statoil hold 25% each. The company is also the operator of the St. Malo field with a 51% interest. Other partners in the St. Malo field include Petrobras (25%), Statoil (21.50%), ExxonMobil (1.25%), and ENI (1.25%). With a planned production life of more than 30 years, the first stage of development of the project was completed in December 2014 at a cost of around $7.5 billion, and is anticipated to recover in excess of 500 million oil-equivalent barrels from the two fields. During the first-quarter earnings call presentation, Chevron pointed out that gross production from the project has already been ramped up to more than 70 MBOED and is expected to reach around 100 MBOED by the end of this year. [3]

Overall, the production growth from Chevron’s new project developments more than offset the natural decline in its base production, which was also quite low at just below 2%, during the first quarter. This is a trend that we expect to continue for the rest of the year. Going forward, Chevron plans to start up the Gorgon LNG project, which forms the centerpiece of its production ramp-up plan, in the second half of this year. This should further boost its net upstream production in the coming years. [4]

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Notes:
  1. 2015 1Q Earnings Release, chevron.com []
  2. 2015 1Q Earnings Conference Call Presentation, chevron.com [] []
  3. 2015 1Q Earnings Transcript, chevron.com []
  4. Chevron Corporation’s 2015 Security Analyst Meeting, chevron.com []