27 November 2008

COP: Look Ahead to December 2008 Quarterly Results

The GCFR Overall Gauge of ConocoPhillips (NYSE: COP) surged to 50 of the 100 possible points -- not a bad score -- in the third quarter of 2008.  Our analysis report explained this result in some detail.

High energy prices earlier in this year contributed mightily to Conoco's top and bottom lines, pushing our Growth gauge over the 20-point threshold in the second and third quarters.  Revenue in the September 2008 quarter exceeded the value in the year-earlier period by 52 percent!  Energy prices peaked early in the third quarter and have, as every automobile owner knows, fallen steeply since.  

ConocoPhillips shares followed oil prices up and then down.  During the third quarter, the share price fell from $94.39 to $73.25.  Our contrarian Value gauge, which had earlier signaled that the share price was too high, strengthened when the shares began to fall.  The Value gauge, which tends to move in the opposite direction of the share price, rose a remarkable 12 points, from 1 to 13 points on a 25-point scale, in the third quarter.

To look ahead, we've modeled ConocoPhillips's Income Statement for the December 2008 quarter.  The intent of this exercise was to produce a baseline for identifying any deviations, positive or negative, in the actual data that the company will announce on, or about, 22 January 2009.  GCFR estimates are derived from trends in the historical financial results and guidance provided by company management.

ConocoPhillips is the seventh-largest Major Integrated Oil & Gas company by market capitalization.  Holding the fifth spot on the Fortune 500 list, Conoco's heft was achieved with mergers and acquisitions.  Most notably, Conoco, Inc., and Phillips Petroleum combined in August 2002.  In March 2006, ConocoPhillips purchased Burlington Resources, which had extensive natural gas operations in North America, for $33.9 billion.

Berkshire Hathaway, Inc. (NYSE: BRK.A), run by super-investor Warren Buffett, and its affiliates owned about 84 million shares of ConocoPhillips on 30 September 2008.  The company's stake increased from 17.5 million shares on 31 March 2008. 

Troubles with the Venezuelan government last year led ConocoPhillips to record "a complete impairment of its entire interest in its oil projects in Venezuela of approximately $4.5 billion, before- and after-tax."

ConocoPhillips owned 20 percent of LUKOIL (OTC: LUKOY), which is responsible for more than 18 percent of Russia's oil production, on 30 September 2008.  Lukoil ADRs declined from $98.75 on 30 June 2008 to $59.75 on 30 September to $38.80 on 31 October 2008.

The third-quarter earnings announcement indicated that the company expects the output of its Exploration and Production segment to be higher in the fourth quarter than the third quarter.  With respect to the Refining and Marketing "downstream" segment, Conoco noted that the "crude oil capacity utilization rate is expected to be in the mid-90-percent range."

Conoco's Revenue depends on factors such as, but not limited to, how much oil and gas the company produces, the prices at which it can sell this output, how much crude oil its refineries can process, and the difference between the price of crude and refined products.  As we've seen, geopolitical and natural forces can have a significant effect on productivity and prices.

We don't have the specialized expertise to deal with all these factors.  To come up with an, um, crude estimate of fourth quarter Revenue, we're simply to going to use the price of oil.  During the third quarter, the price of a barrel of Light Sweet Crude oil declined from about $140 to $105, for an average price of roughly $122.50.  During the fourth quarter to date, the average price is closer to $80, but dropping almost daily.

This suggests to us the Conoco's fourth-quarter Revenue may be 35 to 40 percent lower than the third quarter's Revenue of $70 billion.  We will use a round-number estimate of $44 billion.

ConocoPhillips' average Gross Margin is around 25 to 30 percent, but it has been in the lower part of this range recently.   Our estimate for the fourth quarter is 26 percent.  In other words, we're guessing the Cost of Goods Sold [i.e., purchased crude oil, natural gas and products + Production and operating expenses] will be (1 - 0.26) * $44.0 billion or $32.6 billion.

We'll also assume, based on historic data, a Depreciation expense of 4.5 percent of Revenue, or $2.0 billion.  Similarly, we'll estimate SG&A expenses at 11 percent of Revenue, or $4.8 billion.  We will then add $400 million for Exploration expense per company guidance and $200 million for non-recurring operating charges.

These figures would result in an Operating Income of $4.0 billion, down 32 percent from the December 2007 quarter.

We then need to consider non-operating income and expenses, such as equity in the earnings of affiliates, minority interests, and interest.  Considering past results, we will set our expectation for net non-operating income at $1.25 billion.  This pushes our estimate of pre-tax income to $5.3 billion

ConocoPhillips' effective income tax rate is quite variable from quarter to quarter.  A rate of 44.0 percent would lead to provision for income taxes of $2.3 billion.  This should be close if there aren't too many special tax matters in the quarter.

Our estimate for Net Income is, therefore, $3.0 billion ($1.97 per share).

Please note that the table format below, which we use for all analyses, can and often does differ in material respects from company-used formats.  A common difference is the classification of income and expenses as Operating and Non-Operating.  The standardization is simply for convenience and to facilitate cross-company comparisons.

($M) December 2008
December 2007
Revenue (1) 44,000 52,685
Operating expenses
CGS (2) (32,560) (38,046)
Depreciation (1,980) (2,206)
Exploration (396) (268)
SG&A (3) (4,840) (5,942)
Other (200)
Operating Income 4,024 5,969
Other income
Equity income (4) 1,232 1,316
Interest, etc. (5) 19
Pretax income 5,276 7,324
Income tax (2,321) (2,953)
Net Income 2,954 4,371
$1.97/sh $2.71/sh
Shares outstanding 1,500 1,612
1. Revenue = Sales and other operating revenues.
2. CGS = Purchased crude oil, natural gas and products + Production and operating expenses
3. SG&A = SG&A expenses + Taxes other than income taxes
4. Equity income = Equity in earnings of affiliates - Minority interests
5. Interest, etc. = Other income - Interest and debt expense

1 comment:

  1. CONOCOPHILLIPS revenue not only depends how much oil or gas they produces. It also depends on their refinery also. Its very much clear that their fourth quater revenue will obviously lower than their third quater revenue.