ConocoPhillips will have to prove a tortoise can run with the oil hares. In one of its last quarters as an integrated U.S. major, Conoco delivered 66-per-cent profit growth. But production fell again ahead of a spinoff that will pit its exploration arm against a faster-growing peer set. Though it’s buying more dynamic assets, the division’s future valuation will depend more on quality.
On the surface, Conoco’s fourth-quarter results were far from sluggish. Its bumper surge in net income, however, was largely due to gains on asset sales and the rising price of crude. Come July, when Conoco hives off refining, it will look comparatively slow against independent exploration and production companies. The company has been in contraction mode for several years, unloading low-return assets. Output of oil and gas was down 7.6 per cent from a year earlier. According to IHS, Conoco’s production and reserves have declined since 2006 by about 30 per cent.
This wasn’t a real problem inside an integrated group. Investors were happy to see the firm cutting debt. But in its newish sector, double-digit output growth is common, where Conoco might expect 5-per-cent growth at best, according to research firm Sanford C. Bernstein. This gap helps explain the superior valuations of U.S. explorers, which trade on a median of 19 times 2012 earnings, against just 10 times for the likes Exxon Mobil and Chevron, according to Thomson Reuters data.
Conoco has been trying to fit in with its new pure-play peers. It was the most aggressive bidder in a recent auction for exploration permits in Gulf of Mexico deep waters, a fast-growing zone in which Conoco has been conspicuously absent. It is also stepping up activity in hot U.S. oil-shale areas.
With production of 1.6 million barrels a day, Conoco will at least start out twice as large as nearest rival Apache. But even if recent bets pan out, it won’t match the growth pace of rivals. Instead, Conoco’s best shot at approaching the sector’s superior valuations will be to impress investors with a higher return on assets. Having trimmed some fat, it will be off to a good start.