ConocoPhillips (COP) Q1 2013 Earnings Report, Transcript and Summary

Welcome to the Q1 2013 ConocoPhillips Earnings Conference Call. My name is Christine, and I will be your operator for today's call. [Operator Instructions] Please note that this conference is being recorded. I will now turn the call over to Ellen DeSanctis, Vice President, Investor Relations and Communications. You may begin.

Thank you, Christine. And thank you to all of our listeners for joining this earnings call today. As usual, we'll review the results for the past quarter and we'll provide quite a bit of outlook for the coming quarters this year. It's a big year, as I think you all know and appreciate. With me for today's call are Jeff Sheets, our Executive Vice President of Finance and our Chief Financial Officer; and Matt Fox, our Executive Vice President of Exploration and Production. Before I turn the call over to Jeff, let me make just a few administrative points here. As a reminder, in late February, we hosted our first ever analyst meeting as an independent company. And at that meeting, we presented a lot of detail about our future plans and our milestones. We had a great response to the event, which we appreciate. And today, you'll here that our performance and our plans are tracking the expectations we laid out there overall. The material for that meeting, including a transcript of that call, is still available from our website, and that's also where you'll find the materials for today's presentation. One other kind of quick administrative matter: Except as noted, today's comments as we go through the presentation will address the company's performance on a continuing operations basis, and that is net of the results for the settled properties that we've previously reported as discontinued operations. So just listen for that. We know the models have a mix of conventions and so we want to be clear about the convention we plan to follow today. If you'll turn to Page 2, you'll find our Safe Harbor slide. We will make some forward-looking statements today, and of course, our actual results could differ. The risks in our future performance have been outlined and described on the Safe Harbor statement and in our periodic filings with the SEC, including our recently filed Form 10-K. And with that, it's my pleasure to turn the call over to Jeff. Jeff?

All right. Thank you, Ellen. And good afternoon, everyone, and thanks for taking the time to join us on our call today. I'll begin my comments on Slide 3 and cover some of the key first quarter highlights. Strategically, we continue to make good progress on our announced asset sales. In the first quarter, we closed the Cedar Creek Anticline transaction and some small asset sales, which generated total proceeds of about $1.1 billion. We're also making progress in our sales of our Algeria, Nigeria and Kashagan assets and anticipate closing those in 2013. At the same time, as we work to monetize these non-core nonstrategic assets in our portfolio, we continue to add assets, which will allow us to sustain our long-term growth. We added acreage in our deepwater Gulf of Mexico position and continue to make selective entries in the new exploration plays globally. But Matt is going to provide more information about our investment programs during his comments later in the call. Operationally, the business ran well, and we achieved the high end of our estimated production range for the quarter. We produced 1.596 million BOE per day on a total company basis and 1.55 million per day on a continuing operations basis. We announced 2 significant deepwater Gulf of Mexico discoveries in the first quarter at Shenandoah and Coronado, and these are important milestones in our emerging deepwater Gulf of Mexico program. Moving to financial results. Adjusted earnings were $1.8 billion, it's $1.42 a share. Special items this quarter were $387 million, which were primarily related to gains on asset sales. Excluding a $1 billion net working capital gain benefit, we generated $3.6 billion in cash from operations and ended the quarter with $5.4 billion of cash on hand. Our debt level was unchanged from year…

Thanks, Jeff. As both Ellen and Jeff mentioned, general theme of this quarter's operational performance is that we are on plan. Jeff covered the financials results by segment, but I'm going to cover the operations material by the capital buckets we reviewed at the Analyst Meeting in February. So these are our high-quality base, our relatively low-risk development programs that completely mitigate base decline, our major projects and our exploration programs. And we think of these buckets as distinct parts of our strategy that, when aggregated, will drive growth in volumes, margins and returns over time. So let's start with our base asset discussion on Page 14. Just as a reminder, our base refers to the assets that we're producing at the end of last year, which comprised about 1.5 million BOE per day of continuing operations. During the first quarter of this year, our base production performed essentially as expected. Around the business were some winter-related downtime in the San Juan Basin that Jeff talked about, the majority of which has been restored. In addition, as we discussed last quarter, our Calder field in East Irish Sea is down, pending completion of a new asset plant. As we discussed in the Fourth Quarter Call and at the Analyst Meeting, I want to remind you that we have some significant downtime planned during the next 2 quarters. In our operated assets alone, we expect downtime to be about 30% higher than our 5-year historic average, and much of this higher downtime is related to what then needs to be performed to tie in new production in many of our operations. And we also expect higher-than-average downtime in several of our key non-operated assets this year. So I thought it would be worthwhile taking a moment to give you some highlights…

[Operator Instructions] And our first question is from Faisel Khan of Citigroup.

I was just wondering if you could give us an exit rate in the quarter for the Eagle Ford.

The exit rate was about 110,000 BOE per day, and for -- and we're continuing to grow production. I think we had a new peak production on Monday of 116,000 BOE per day in Eagle Ford.

Okay. So -- and where do you kind of see this going towards the end of the year at?

Right now, in the Eagle Ford, we're in a pretty linear growth trend. And we will see that continuing essentially as we go through the year.

Okay, understood. And then on the recent change in the legislation in Alaska on the progressive tax, what do you mean? You said you're going to add a rig to Alaska. What's the current thinking now with the new tax regime in place?

So we've been encouraged by the changes to the regime. We've been advocating this for some time. And then the change will encourage additional investment in Alaska. So we're -- and we were looking at that. We've got a long list of projects that we are evaluating now. And we did announce that we're immediate starting to increase with this new rig that we're bringing in and that rig is going to be very focused on working over existing wells and adding production that way. But we do have quite a few capital projects that we're now evaluating the impacts of the fiscal regime on.

Okay. And this is still in terms of Alaska. So the -- you guys laid out, I guess, a production sort of decline in Alaska over the course of this year. Does this rig and the new activities sort of mitigate that decline rate, and by how much?

You won't really see any significant change in the short term. But the -- but the issue is given the new fiscal regime, our incremental capital investments worth are now competitive. And we think they will be, but we're taking that through our overall planning process this year. And we'll be more equipped to talk about that later in the year.

Our next question is from Doug Terreson of ISI.

In March, at the Analyst Meeting, the company provided a pretty detailed outlook for production and cash margins. And on this point, I think U.S. production from liquid-rich play rose by over 40% versus the year-ago period, which is obviously a pretty strong result. But my question is on profitability and specifically whether cash margins in these plays are strengthening, as you thought that they might, and also whether there are any other performance-related factors that are worth mentioning in the Eagle Ford, the Bakken and the Permian developments that you have underway?

Yes, the -- pretty much. As Matt mentioned, the production is happening pretty much as we expected from all 3 plays, the Eagle Ford, the Bakken and the Permian. And production from these is all -- well, Eagle Ford is 60% oil and 20% NGLs and 20% gas, so that's really strong cash margins. And Bakken, of course, is mostly oil. And the Permian is a -- got a very favorable mix as well. So cash margins from all these assets are really much higher than our -- than the average of our current portfolio. So as you see, the portfolio, the whole -- you're starting to see that show up now finally in Lower 48 cash margins as that portfolio has moved now towards kind of about half liquids to where it was only 45% a year ago. So you're getting to -- you're starting to see that all across the portfolio. Cash margins have been a little bit hurt in Canada because of the recent weakness in bitumen prices, but we see that that's going to start recovering as well. So overall, the -- it's kind of Matt was summarizing. We see the trajectory of the growth in production happening as we thought it was going to. And it's -- that trajectory of growing production is going to cause -- growing the production at higher margins is going to cause cash margin to increase over time. So production growth is on plan and margin growth is on plan as well.

Okay. And Jeff, I think that you mentioned your efforts on optimization and how higher net backs, as I think the way you talked about it. And on this point, I wanted to see if you could highlight some of the specifics that are being undertaken to improve the netbacks to the company on production.

Yes, I think we talked about how a lot of -- in particular, what we're trying to make sure is that it's not going to be talking about [ph] marketing in Eagle Ford, for example. Matt, maybe you want to talk some about what we're doing there?

Yes. So our goal here, Doug, is to have as much optionality as we can because, as you know, there's a lot of volatility and various markers in the production itself in all 3 of those basins. So we're -- so for example, in the Eagle Ford, just now, the way that we're set up for our sales, we're realizing WTI plus about $5 from Eagle Ford, and that's a mixture of production that's going by pipeline. A lot of production is still going by truck. And some of our production is priced off LLS, some of it's priced off WTI. And our liquids, the non-NGL liquids, are sold as a light sweet crude. And because they've got very high-value metal distillate, that makes them good refinery products, so they're not going being sold as condensate. And so we're -- and we feel good about the liquid and the gas takeaway capacity just now in the Eagle Ford. In the Bakken, we're actually realizing WTI minus about $5 on average in the Bakken. And we've got a mixture of offtake as well: About 30% is by pipeline just now, about 25% we're selling to rails -- to railers to bring it south to capture the WTI-Brent spread. And so we're managing that, I think, very well. And we're developing a lot of optionality to make sure that we have flexibility to maximize our realizations.

Our next question is from Ed Westlake of Crédit Suisse. Rakesh Advani - Crédit Suisse AG, Research Division: This is actually Rakesh for Ed. Quick question on your -- if you can give any updates on your Canadian asset disposals, where we are in the process over there.

Yes. We're still evaluating our options for diluting our position in the Canadian oil sands. We've got quite a few alternatives that we're considering, quite a lot of interest in those assets, and -- but we're not in a hurry. This is an important strategic transaction for the company so we're still thinking through the -- which of these alternatives we want to pursue.

The next question is from Paul Cheng of Barclays.

This is real quick. Matt, I think, in Eagle Ford, that you're primarily frac oil. And do you have any rough estimate in terms of the spread between frac oil, condensate, NGL and gas for your position in the Niobrara, Wolfcamp and Canol Shale?

It's still very early days from the -- in all of those. And they -- we do see -- have a higher liquids yield in the Niobrara, for example. And the wells we've tested there all have a high crude oil yield. The -- in the Permian, I think the most recent stuff I saw from our Avalon wells was 60% crude oil percentage. And then I think you mentioned the Canol. We don't have a well test in the Canol yet, we just had -- we just tried -- drilled and cored and logged to those wells, so we don't have an estimate of that yet.

And Matt, when you say crude oil, you're really referring is frac oil, it's not condensate and NGL, right, when you say 60% in the Wolfcamp?

That's correct. That's right.

Okay. And that in the Colombia, when you drilled the first well, the vertical well, are you going to also frac it? Are you just going to, say, get some core sample?

I think the, first well, we're just going to get core samples and some frac -- some dynamic fracture testing. But I don't think we plan to run a full frac on the first well.

And maybe this is for Jeff, that any update about the Canadian oil sand sales, where we -- where are we in the process?

I think, as Matt mentioned, I think, on -- previously, we're still evaluating the options that we have in the Canadian oil sands process. And that's something that we're going to be taking our time doing because there are a lot of different potential routes we could go with that transaction.

So we should not necessarily assume that this is going to have a final decision made by company within this year.

Yes, I think that'll be fair. It's a transaction we're going to be working on throughout this year and could potentially be in the next year as well.

Okay. Matt, on the -- on Shenandoah, that is a monster well. Given that it's so great in terms of the size, should we assume from a time line standpoint, the development, you may actually need to -- at least another 2 year for additional appraisal well and then, after that, 2 year of the same [ph] and then maybe 4 year of the actual construction of the platform and all that? So were you talking about more like in the 2020, 2021 kind of time line?

So we're still working that, Paul. It's a good question. And we're in the middle of working out the time line and the appraisal requirements for that well. And so it's too early to give you a time line for that.

The next question is from Doug Leggate of Bank of America.

I've got a couple of questions, please. Matt, on the Eagle Ford, there's -- a number of companies now have started to chatter about the Pearsall and the [indiscernible] on their recent acreage. I'm just wondering if you are moving that -- in that direction and if there's anything you can share with us in terms of how it might augment the existing program.

Yes, yes, we know that, that potential exists on our acreage. And so that's -- we're really regarding that right now as upside relative to the Eagle Ford shale itself. But you're right, that potential could be quite significant.

But nothing in terms of exploration activity or appraisal activity at this point.

Not right now. No, not right now.

Jeff, my follow-up is on the cash margin comment. I'm looking for a bit of help here, really. This is probably the key to -- or one of the keys to the investment case, I guess, is the growth and the margin expansion, you spent a fair amount of time talking about it. Your liquids production was up 57% versus 55% as a proportion, but every liquids realization year-over-year was down pretty quite materially and the only realization that was up was gas. So I'm trying to understand, how does the cash margin grow in that environment? But my numbers is not growing, and I'm trying to understand how you're getting to these numbers. Are you normalizing for the base portfolio after asset sales? Or is there something else going on there?

So let me kind of take that in kind of short-term and long-term impact. So...

I'm looking Q1 over Q1...

Yes. It's what I would call short-term impacts. Cash margins, there's -- always, there are going to be a lot of things that go into cash margins that would create a lot of noise when you look kind of quarter-over-quarter or even somewhat year-over-year. So it depends not just on what price levels happened -- or what went on with price levels, which moved a little bit in this year-over-year time period. As we showed our realized price, overall it went down by about 3%. overall. The cash margins went up. So it's what is making up -- it's the tax rates at which those -- that production is happening, as well, makes a lot of difference. And as you point out, we did have some improvement in natural gas prices in that time frame, which helped margins. So what we showed in the call today which is what happened to actual cash margins year-over-year, including the impact of prices. Now what we think is important, though, is what happened in the cash margins over the long term kind of in a flat price environment, and that's what we really tend to talk more about, like that we spend a lot of time talking about it in the analyst presentation. And as you go long term, it's the impact of adding oil production, LNG production, oil sands production, and changing the mix in the portfolio, as well as the geographies in which you add them. And that's just the same way we pointed out on today's call that you could observe year-over-year cash margins increases and there's going to be noise around that as we go forward. And I won't say that every quarter we'll see an increase but, over time, as we move our portfolio to higher liquids percentages and change the geographies, that you're going to see an improvement in that cash margin.

Well, only just to be clear, then. I'm looking at first quarter '13 over first quarter '12, you're saying it's up 6%. How much of that was the gas price improvement?

Gee, I don't know. I don't think I've -- we haven't dissected to that and try to allocate it out to different components.

Our next question is from Blake Fernandez of Howard Weil.

I had a question for you, in the Gulf of Mexico. You talked about Shenandoah. And as I understand that you've got about 180,000 acres in -- primarily in the Green Canyon area where you have 100% and, I believe, the plants are to start drilling in that in 2014. I'm just curious if -- how we should think about farm-down potential there. Do you maybe have increased appetite to keep a higher working interest given the success in the area?

I think it's more likely that we would start drilling there in maybe 2015 than 2014. We've got some new high-quality seismic across that whole acreage position that you're referring to, and we expect to see some very high and -- good-looking prospects there. And until we get to the stage where we're ready to get them on the drilling program, that's when we'll think about if we went to bring someone in before we drill, to farm-in. So we haven't got to the stage of making that decision yet, but we really are quite excited about that zip code. This is definitely looking very good.

Okay, great. Secondly, I guess it's on the natural gas side. I always view Conoco as having probably more leverage than peers to U.S. natural gas. And certainly, that creates some optionality. I -- obviously, we haven't heard anything on increased activity just yet, but is there a certain price that we should kind of earmark as -- say, $5 in Mcf, where maybe you would begin to increase in activity there?

We did have a lot of potential there transactionally. We're really focusing our investment just now on the liquids-rich assets. And of course, we get associated gas with that, so we benefit from the gas price there. And I would say that -- I wouldn't see us redirecting any capital towards gas assets until we're seeing it significantly north of the current prices, the...

On a sustained basis.

Yes. And I think that's the point to it: We'd have to get comfortable the prices have made some kind of move that is sustainable to a higher level.

And Jeff, saying that, I'm assuming -- I mean, given your history, you're not the type to hedge, so I'm assuming that's not something you'd be looking to do...

That's correct. You'd be -- you don't likely to see us hedge.

Our next question is from Brandon Mei of Tudor, Pickering.

Just on the Gulf of Mexico exploration plans. Obviously, you've got a lot going on there. But just wanted to get some color on how you see the new prospects and how they differ from what you've learned on Shenandoah and Coronado. And then secondly, I think you have one rig, operator rig, for Thorn. Just wanted to see if there's opportunity to increase that.

Yes. So we -- across our Gulf of Mexico portfolio, we've got a mixture of pliocene, miocene and then the lower tertiary. The majority of the increase we've been picking up has been focused on the lower tertiary. And then we do have some balance in the portfolio there. We have this operated wide single slot to drill the Thorn well, and then we have -- we're picking up a long-term rig contract with a new-build first coming in, in 2014, the beginning of 2014, and we're sharing that 50-50 with another operator. And we're currently evaluating our needs for more rig capability in the Gulf of Mexico and the deepwater rig capability in general. So we expect to be adding to our operator capacity here over the next couple of years.

Our next question is from Roger Read of Wells Fargo.

I guess maybe just to beat the cash margin horse a little bit more. As you're looking at it, as we think over next, let's say, certainly the next couple of quarters where we're going to see the downtime issues plus the asset sales actually get completed, I know you maybe haven't broken it down by all the segments, as you said, between the prices and all, but as we think about those projects that you're selling, dropping away, a resurgence in activity off the downtime as we kind of look at, say, the fourth quarter and then on into '14, what would you expect to see on the cash margin side, I mean, understanding that the next 2 quarters may be a little bit obscured in terms of what you're actually achieving? And maybe how much of it is an improvement of dropping off the projects you're exiting?

Yes, so there's always so much -- there's always going to be a fair bit of volatility just based on what's going on with prices. So do you step -- you almost have to set that aside to start with. So if you think about what we said at our analyst presentation, we're kind of going from a mid-20s kind of cash margin today over the next several years where prices stay the same, that's kind of a low-30s type number. And that's being driven by new production coming online that's different. And new production has kind of happened on a favorably ratable basis over the next -- between now and 2017. You'll really start to see that happening for us kind of in the fourth quarter of this year as new projects start up and then also you're kind of ramping up on some of the Lower 48 assets as well. So it's going to be, if prices didn't change, then you'd see a fairly steady increase on our cash margins over that time frame, but I can't really tell you even how it's going to be in the second quarter or the third quarter. I think you were asking a question of, well, "How about the impact of things dropping out of our portfolio?" And you kind of are already -- seeing that already because we started reporting Algeria, Nigeria -- well, Kashagan didn't have any production right now, but we started reporting those assets as discontinued operations. So actually, having those sold, probably not going to change much from the presentation that you see today.

Okay. So I guess that was part of my question, that -- so the $26.53 in Q1 is the right sort of run rate going forward?

Yes, yes. Right.

Okay, that's helpful. And then as you think about Alaska, what would be the time frame in which you'd be able to reevaluate your existing projects or, let's say -- call, your inventory of projects and actually make it a decision going forward that we would maybe begin to think about Alaska as something other than a declining production province and something that could actually grow?

So Roger, we'll be doing that as we go through our planning process this summer and into the fall, in looking at how this change in the fiscal regime influences the competitiveness of the incremental projects that we can see there. And we'll put that in the mix. And I certainly expect to see us a onetime increase on investment in Alaska based of this change.

Okay. But if we think about budgeting this fall, given the time to get equipment up there and all, you'd really be looking at probably the winter of, I guess, '14, '15 to get more active?

In some areas, we can ramp up that quickly. That's pretty fast for somewhere like the north slope. But of course, if it's major projects and adding new phases of well site development or adding new drill sites and product or an NPR-A, these things take quite about longer than that and -- to get moving.

Our next question is from Iain Reid of Jefferies. Iain Reid - Jefferies & Company, Inc., Research Division: Couple of things. A couple of questions about Australia, to begin with, if you don't mind. On Poseidon, you've drilled several wells there now and also farmed it down. I wonder if you can say how close you are now to getting into, say, feed and what you're thinking about in terms of a potential development. Is it going to be a stand-alone development, or maybe tied back to something else? Obviously, Woodside recently pushed their browsing back a little bit now. So that was the first thing. And the second thing is, on APLNG. You've been trying to farm this out for a while, trying to farm down further than your current interest. Is there any progress on that? Or did the -- or the appetite of people for Australian coal seam gas kind of diminished a little bit compared to where we were a couple of years ago? That was the first 2.

So -- okay, so let's take Poseidon first. So to answer the questions, you were asking, what's the right development plan there, where should we take the gas. That's the whole purpose of the appraisal program that's underway just now. And we anticipate the appraisal program will be somewhere between 5 and 8 wells. So we'll be appraising all the way through this year and probably into early year. And the whole purpose of the appraisal program is to get us the data that we need to optimize the development plan. So yes, that's what we're about in Poseidon. On APLNG, we have said that we would be interested in -- at the right value to dilute a bit further in APLNG. That's not likely to happen this year. So we're -- that's sort of in the back burner for the time being. Iain Reid - Jefferies & Company, Inc., Research Division: Okay. Okay, last one is on the Chukchi. You've had to put that on hold for regulatory issues. What exactly are these issues? Isn't it knock on from what happened to Shell up there? And once you get drilling there, how do you kind of rank that region compared to other areas where you've been pretty successful recently, say, the Gulf of Mexico?

So in the Chukchi, the reason that we decided not to go out in there in 2014 was that we were in the cusp of having to make some very significant commitments for rigs, for vessels and so on. And we just felt as if there wasn't enough stability in the way that the regulatory framework was shaping up for us to be able to do that with confidence, knowing that we'd be able to get the permits and then go out there and actually drill when the rigs turned up. So we just felt that the prudent thing to do is to take a pause there and see how things -- see -- let things evolve a little bit before we decide to drill those wells. As far as the prospectivity is concerned, I mean, we still like the prospectivity in the Chukchi. There's a lot of potential out there. So we haven't given up on drilling in Chukchi. We just looked -- we said that we're not going to go out there in 2014. Iain Reid - Jefferies & Company, Inc., Research Division: So you're looking at a 2015 program, then. Is that the kind of way to think about it?

Yes, potentially. We've been -- really, what we have to understand is what the -- is make sure that we fully understand the regulatory framework and so that we know what we're getting ready for and make sure that we can be ready for that.

And Christine, we're right at top of the hour. I want to respect everybody's time. We're happy to take -- Vlad and I are happy to take any additional questions you might have. I want to thank all of you for your participation. And enjoy the rest of the day. Thank you, everybody.

Thank you. And thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.