Chevron 2Q Earnings: Oil Price Decline To Outweigh Production Growth

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Chevron (NYSE:CVX) is scheduled to announce its 2015 second-quarter earnings on July 31. [1] We expect lower crude oil prices to weigh significantly on the company’s upstream earnings. Benchmark crude oil prices have fallen sharply over the past 12 months on rising supplies amid slower demand growth. The average Brent crude oil spot price declined by more than $48 per barrel, or almost 44% year-on-year, during the second quarter. However, higher upstream production, primarily driven by the ramp up of the recently-started Jack/St. Malo and Tubular Bells projects in the U.S. Gulf of Mexico, and increased development of the shale/tight hydrocarbon reserves, will partially offset the impact of lower oil prices on the company’s overall performance. During the earnings conference call, we will be looking for an update on Chevron’s ongoing new project development, specifically the Gorgon liquefied natural gas (LNG) project in Australia, that is expected to come online later this year. We will also be looking for an update on its operating strategy under the changed crude oil price environment.

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 $99/share price estimate for Chevron, which is almost 23.4x our 2015 full-year adjusted diluted EPS estimate of $4.23 for the company. [2]

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Higher Upstream Production

We expect Chevron’s second-quarter average daily net upstream (oil and gas) production to be higher, compared to the year-ago quarter, as increased liquids (crude oil and natural gas liquids) production from tight oil plays in the U.S. and Argentina, coupled with the ongoing ramp up of production from the recently-started deepwater projects in the Gulf of Mexico, is expected to more than offset the decline in production from Angola, due to a shut project, and Chad, due to a recent divestment. We expect Chevron to continue to make good progress on its shale and tight resources development program. 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 during the second quarter 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. [3]

In addition, we also expect the recently-started Jack/St. Malo and Tubular Bells projects in the U.S. Gulf of Mexico to boost Chevron’s second-quarter net upstream production. 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. Chevron is also a co-partner in the Tubular Bells project that developed its namesake deepwater oil and gas field located in Mississippi Canyon Block 725 of the U.S. Gulf of Mexico. First production from the project, which is expected to deliver around 58-67 MBOED (gross) at its peak, was announced in November last year. [4]

However, the decline in base production coupled with the shutdown of the Angola LNG project due to technical issues, and the recent divestment in Chad, is expected to partly offset the company’s second-quarter production growth from new projects. Chevron’s $10 billion Angola LNG project has been plagued with several issues since its startup in mid-2013 due to a series of technical faults including electrical fires, pipeline leaks, and a slower than expected ramp-up of the downstream processing facility. In its latest annual SEC filing, the company noted that the project would remain shut for most of this year because of the ongoing repair work, caused by a pipeline rupture in April last year, and design modifications to increase its reliability. Chevron is the operator of the project with a 36.4% working interest. The company also announced the sale of its interest in some oil fields and pipelines in Chad to the country’s government for around $1.3 billion in June last year, which will further reduce its net upstream production growth during the second quarter. Chevron’s average daily net crude oil production from these assets stood at 8,000 barrels in 2014. [2]

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Notes:
  1. Press Release, chevron.com []
  2. Chevron 2014 10-K Filing, sec.gov [] []
  3. 2015 1Q Earnings Conference Call Presentation, chevron.com []
  4. 2015 1Q Earnings Transcript, chevron.com []