How Does ConocoPhillips Plan To Improve Its Shareholders’ Return In The Next Few Years?

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ConocoPhillips

The prolonged slump in commodity prices has led to a severe deterioration in the profitability and returns of oil and gas companies across the globe. ConocoPhillips (NYSE:COP), one of the largest independent oil and gas companies, has also witnessed a drop in its profits over the last two years, with its net income declining from roughly $7 billion in 2014 to an anticipated loss of over $4.5 billion in 2016. As a result, the US-based company has experienced a plunge of more than 40% in its stock price since July 2014, making investors wary of the company’s ability to weather the downturn.

Yet, we believe that the exploration and production (E&P) company has managed to hold up well in the current weak price environment by restricting its production and capital spending, and reducing its break-even price. Besides, with the changing outlook for commodity markets, the company has proactively devised a number of strategies to streamline its operations, and optimize its balance sheet in order to deliver sustained returns to its shareholders in the coming quarters. In our previous analysis, we had discussed  ConocoPhillips’ operational strategy for 2017, where we talked about the company’s production and cost reduction plans. In this note, we take a look at the company’s financial priorities for the next few years.

Growing Dividend

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Over the last ten quarters, plummeting commodity prices have created a huge dent on ConocoPhillips’ earnings, and, in turn, cash flows. This forced the company to not only cut back on its exploration and drilling activities, but also reduce its quarterly dividend payments to its shareholders. The oil and gas player reduced its quarterly dividends of 75 cents throughout 2015 to around 25 cents in the first quarter of 2016. As a result, the company’s dividend yield dropped to almost half. While this was an alarming move for investors who were seeking dividend growth from the company, it helped the company to preserve its depleting cash flows and manage its day-to-day operations in the turbulent price environment.

COP-Q&A-2016

Now, with the increasing optimism in the commodity markets, ConocoPhillips aims to gradually improve the quarterly dividend payments and reach its historic levels over the next few quarters. However, the trajectory of the oil price recovery will play a crucial role in the dividend growth that the company will be able to deliver to its shareholders.

Reducing Long Term Debt Obligations

Since the onset of the turmoil in commodity markets, ConocoPhillips has raised additional long term debt of roughly $5 billion in a span of two years. This has become a cause of anxiety for the investors, as a highly levered balance sheet implies higher interest expenses and a greater probability of credit defaults by the company in a soft price environment. However, the oil and gas producer is aware of the risks of holding a skewed capital structure and has been working towards reducing its credit risk.

COP-Q&A-2017-4

Source: Goldman Sachs Energy Conference, ConocoPhillips, 5th January 2017

In this quest, the company’s management aims to bring down its long term debt obligations from $27 billion at present to around $20 billion by end of 2019 and achieve an “A” credit rating for its debt. The oil and gas major has debt worth $1.1 billion, $1.9 billion, and $3.9 billion that will be due for payment in 2017, 2018, and 2019 respectively, which will help the company achieve this objective. In order to repay this huge amount of debt, the company will rely on the cash flows from its operations, and the proceeds from its asset sale program. Although the disposition of proceeds will depend on the company’s ability to extract an attractive price for its assets, the cash flows will be highly correlated to the rebound in commodity prices.

Disciplined Growth Will Increase Shareholder Returns

Having lost a large portion of its value and reduced its quarterly dividends due to the ongoing commodity slowdown, ConocoPhillips has been struggling to please its shareholders over the last few quarters. Although, with the improving outlook for the commodity markets, the company now targets to payout 20%-30% of its cash flows from operations to its investors. For this, the oil and gas company plans to restrict its capital expenditure to around $5 billion over the next couple of years, delivering a disciplined production growth, assuming a slow and gradual recovery in oil prices.

The cash flows saved from the lower capital spending will be utilized to repurchase the company’s own shares. ConocoPhillips has authorized a share buyback program of $3 billion, aiming to repurchase approximately 5% of its own shares. This will allow the company to enhance its returns and reinforce investor confidence in the company. However, the amount of shareholder returns will be closely linked to the improvement in commodity prices and the cash flows generated by the company.

COP-Q&A-2017-5

Source: Goldman Sachs Energy Conference, ConocoPhillips, 5th January 2017

Thus, we believe that ConocoPhillips has been proactive in finalizing its priorities for 2017, and is working strongly towards executing its targets. However, the success of these objectives is largely correlated to the recovery of commodity prices, which remains highly uncertain despite the positive outlook by the investors.

Have more questions about ConocoPhillips (NYSE:COP)? See the links below:

Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such lean communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com

2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for ConocoPhillips

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