Image: ConocoPhillips rig South Texas Source: Financial Times

Investment Thesis

The Houston-based ConocoPhillips (COP) released its third quarter results on October 29, 2020. The company declared an adjusted loss of $0.31 per share, somewhat in-line with analysts’ expectations.

The third quarter results were affected by lower realized commodity prices and weak production volumes.

However, the most important topic this quarter was the acquisition of Concho Resources. If you need more information about this acquisition, I recommend reading my article published on October 22, 2020.

Ryan Lance, the Chairman, and CEO noted in the conference call:

Our announced transaction with Concho combines two widely recognized leaders in the sector. ConocoPhillips has been a recognized leader in the returns on and returns of capital model for the business. And Concho has been a recognized leader in the Permian pure-play class.

Yet while we’re both best-in-class companies on a stand-alone basis by scaling up our existing returns focused business model, we are stronger and more investable within the sector, characterized by frequent price cycles, industry maturity, capital intensity, and ESG focus.

The investment thesis is straightforward for ConocoPhillips. The company is a long-term oil investment comparable to my oil supermajors’ group, such as Exxon Mobil (NYSE: XOM) or Chevron (NYSE: CVX). The dividend is now somewhat inline with supermajors that I have indicated below:

However, an investment in the oil sector is always risky due to the unpredictability surrounding oil prices.

Hence, I recommend using about 30% of your COP holding to trade short term your long position. It allows you to benefit from the short-term volatility and increase your leverage in case of adverse or unexpected news.

ConocoPhillips – 3Q’20: Financials And Trend – The Raw Numbers

ConocoPhillips 3Q’19 4Q’19 1Q’20 2Q’20 3Q’20
Revenues in $ Billion 7.76 7.71 6.16 2.75 4.39
Total Revenues in $ Billion 10.09 8.14 4.81 4.02 4.38
Net Income in $ Billion 3.06 0.72 -1.74 0.26 -0.45
EBITDA $ Billion 5.24 2.97 0.05 1.45 1.10
EPS diluted in $/share 2.74 0.65 -1.60 0.24 -0.42
Cash from operations in $ Billion 2.34 2.98 2.11 0.16 0.87
Capital Expenditure in $ Billion 1.68 1.60 1.65 0.88 1.13
Free Cash Flow in $ Million 662 1.07 0.46 -0.72 -0.26
Total cash $ Billion 10.05 10.23 8.19 7.86 7.33
Total debt in $ Billion 14.9 14.90 14.97 15.00 15.39
Dividend per share in $ 0.42 0.42 0.42 0.42 0.43
Shares outstanding (diluted) in Billion 1.1133 1.100 1.085 1.078 1.077
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Sources: Company filing and Fun Trading analysis

Note: Historical data are available for subscribers only.

Analysis: Balance sheet and Upstream Production

1 – Quarterly revenues and other Income were $4.380 billion (revenues were $4.386 billion) in 3Q’20.

Net Income was a loss of $450 million, or $0.42 per share, in the third quarter ended September 30, 2020. COP reported a third-quarter 2020 adjusted loss of $0.31 per share.

The big issue this quarter again is the weakness of the commodity prices. The global average oil price that the company realized this quarter was $30.94, or 34.3% down from the same quarter last year. Oil prices improved significantly from the preceding quarter.

2 – Free cash flow (not including divestitures) Note: The generic free cash flow is the cash for operating activities minus CapEx.

Free cash flow (“ttm”) for ConocoPhillips is still positive. FCF yearly is $860 million. COP recorded a third quarter FCF loss of $264 million, the second loss in a row. Despite this setback, ConocoPhillips increased its quarterly dividend payment to $0.43 per share.

The dividend is now $1.68 per share yearly or a yield of 4.34%. It is an expense of $1.85 billion a year and is not supported by the free cash flow.

3 – Detailed oil production was 1,066K Boep/d in Q3’20 (not including Libya with 1K Boep/d).

Note: During the third quarter, the company executed production curtailment of 90K Boep/d. Details per commodity segment:

Below are the global average oil equivalent prices realized by ConocoPhillips (crude oil, natural gas, NGL, etc.). The global average oil equivalent price decreased by 34.3% from a year ago.

Oil equivalent production was 1,066K Boep/d (excluding Libya with only 1K boep/d) in the third quarter, down 22% from a year ago and up 34% sequentially.

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Details The Lower 48

Source: US Properties COP

Production detail:

Production in the Lower 48 represents 34.1% or 309K Boep/d of the total output, excluding Libya. The Lower 48 represents the three US shale basins (Eagle Ford, Bakken, and Delaware) and the Gulf of Mexico production.

Details per US Shale Basin:

Details per commodity segment:

Below are the global average oil equivalent prices realized by ConocoPhillips (crude oil, natural gas, NGL, etc.). The global average oil equivalent price decreased by 54.3% from a year ago but has recovered significantly sequentially.

What happened recently?

  • Completed bolt-on acquisition of adjacent acreage in the liquids-rich Montney in Canada for $0.4 billion adding over 1 BBOE of the high-value resource.
  • Announced an agreement to acquire Concho Resources in an all-stock transaction for 1.46 shares of ConocoPhillips common stock per share of Concho Resources.
  • On November 11, 2020, ConocoPhillips announced a significant gas discovery in Norway.

Source: Presentation

4 – Net Debt is $8.06 billion in 3Q’20 Net debt is about $8.06 billion (total cash of $7.33 billion – including Cenovus Energy (NYSE: CVE)) in 3Q’20). The debt-to-capitalization ratio is now 0.48x.

Conclusion and Technical Analysis

ConocoPhillips’ third quarter was an excellent “moment in time” to look at the company before the merger with Concho Resources, which will create a new stronger company. A great time for such an acquisition/merger for ConocoPhillips that reached a point of potential stagnation.

I believe the two companies merged at the right time into a “more efficient” business based on the famous saying:

The whole is greater than the sum of the parts.

It has been commonly attributed to the Greek philosopher Aristotle (maybe partially wrongly attributed).

The concept that I have explained earlier in my article addressing a potential merger of Chevron and Exxon Mobil is that by merging two similar-sized businesses that show external diseconomies of scale, we can create great synergies. Hence, it transforms two businesses, presenting increasing average costs per output, into a combined company back to economies of scale.

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Hence, I believe this new merger will be beneficial long term.

Technical Analysis (Short Term)

COP experienced a breakout of its descending channel pattern on November 9, 2020. The news of a potential vaccine had a strong positive effect on the oil sector, and the stock kept climbing above the 200 MA and reached the second resistance at nearly $40.

It is still too early to figure out the next pattern, but my guess would be an ascending triangle pattern with support at $35. This pattern is generally bullish when entered from the support side, which is the case here. It means that we may potentially breakout again this new pattern and retest $47-$48.

The trading strategy is selling partially above $40 and wait for a retracement around $35 to start accumulating again.

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Disclosure: I am/we are long COP, CVX, XOM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I trade COP short term as well.



Via SeekingAlpha.com

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