30 April 2010

COP: Income Statement Analysis for the March 2010 Quarter

ConocoPhillips (NYSE: COP) earned $1.40 per diluted share, on a GAAP basis, in the first quarter of 2010, which ended 31 March.  Earnings per share were 2.6 times the (restated) $0.54 ConocoPhillips made in the March 2009 quarter.

Adjusted earnings per share were $1.47 in the latest quarter.  This figure excludes $110 million of after-tax charges related to ConocoPhillips' withdrawal from the Shah gas project in Abu Dhabi and the Yanbu refinery project in Saudi Arabia.

This post examines ConocoPhillips' Income Statement for the latest quarter and compares the entries on each line to our "look-ahead" estimates.  Reported earnings fell $0.01 short of the $1.41 per share we had forecast, but the results would have surpassed our estimate if there had not been special charges.

The principal sources for this income statement analysis were the earnings announcement and the conference call presentation [pdf] and transcript -- the latter is made available by Seeking Alpha.

In a second article, we will report Conoco's scores as measured by the GCFR financial gauges.  The follow-up post will also provide the latest figures for the various financial metrics we use to analyze Cash Management, Growth, Profitability and Value.

ConocoPhillips is a large Integrated Oil and Gas company with global reach.  Its market capitalization is now approaching $90 billion, and its Revenue was almost $150 billion in 2009.  The company was formed in 2002 when Conoco, Inc., merged with Phillips Petroleum.  Additional background information about ConocoPhillips and the business environment in which it is currently operating can be found in the look-ahead.

Please click here to see a full-sized, normalized depiction of the actual and projected results for the just-concluded quarter, as well as the quarterly Income Statements for the last couple of years.  Please note that our organization of revenues, expenses, gains, and losses, which we use for all analyses, can and often does differ in material respects from company-used formats.  The standardization facilitates cross-company comparisons.
Beginning with the first quarter of 2010, Conoco changed how it accounts for its investment in Lukoil (OTC: LUKOY).  Instead of a quarterly estimate of equity earnings, Conoco now records Lukoil's actual results with a one-quarter lag.  Conoco's financial statements for each quarter in 2009 were revised to conform to the current set of accounting principles, and we have made the necessary adjustments to our spreadsheet.

Sales and other Operating Revenue of $44.8 billion was 46 percent more than the $30.7 billion in the first quarter of 2009. Our $47 billion estimate, which was based on oil and gas prices and global refining margins, was too high by 4.9 percent.

Production in the quarter averaged 1.83 million barrel-of-oil equivalents per day, down 5 percent from the same period of 2009.  The production figure rises to 2.27 million boe/day, about 4.4 percent less than last year, if Conoco's share of Lukoil production is considered.

Conoco stated that production fell because of "normal field decline," production sharing agreements, and unplanned downtime due to weather.

Of the various costs and expenses reported by Conoco, we group (for simplicity) two items --  "Purchased crude oil, natural gas and products" and "Production and operating expenses" -- and call the combination Cost of Goods Sold.  In the March quarter, CGS totaled $34.0 billion or 76.0 percent of Revenue.  This equates to a Gross Margin of 24.0 percent, which is a very large 340 basis points less profitable than the 27.4 percent in March 2009.

Two suspects for causing the Gross Margin decline are lower refining margins and the charges related to the end of Conoco's participation in two projects.  Refinery utilization in the first quarter was 78 percent overall (down from 81 percent in March 2009) and 88 percent (up from 80 percent) in the U.S.

We had estimated the Gross Margin would be 25.0 percent, or 100 basis points higher than the actual percentage. 

The Depreciation (including Depletion and Amortization) expense of $2.32 billion was 4 percent more than last year's $2.23 billion.  As a percentage of Revenue, this expense declined from 7.3 percent to 5.2 percent.  The reported Depreciation expense was 3.4 percent less than our $2.4 billion estimate.

Exploration costs in the first quarter of $383 million were up 70 percent from the same period last year.  We had estimated $350 million for these costs.

Taxes other than income and Sales, General, and Administrative expenses totalled $4.48 billion, up 14 percent from last year.  While up, the actual amount was 13.3 percent less, a significant difference, than our estimate.

Other operating expenses (i.e., impairments, accretion on discounted liabilities, and foreign currency changes), in the aggregate, were $241 million.  We had budgeted $200 million for the "Other" category.

Subtracting the various operating expenses from Revenue yields Operating Income of $3.35 billion, up 86 percent from $1.8 billion in 2009's first quarter.  Operating Income fell short of our $3.63 billion estimate by 7.7 percent.  The difference was primarily the result of Revenue being lower than we anticipated, the Gross Margin being less lucrative, offset by lower SG&A/taxes. 

Equity in the earnings of affiliates, $868 million, was 74 percent more than our $500 million estimate.  We did better with the $228 million expense for interest and other items; this figure exceeded our $220 million estimate by only $8 million.

The 47.1-percent effective income tax rate was more burdensome than our 45-percent estimate.

Bottom-line Net Income rose to $2.10 billion ($1.40 per diluted share), compared to restated earnings of $800 million ($0.54 per share) in the year-earlier quarter.  Net Income was almost identical to our $2.12 billion ($1.41 per share) estimate, although the path to get there had some detours we didn't expect. 

Full disclosure: Long COP at time of writing

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