We retain our Neutral recommendation for ConocoPhillips (COP) following its better-than-expected fourth quarter 2010 earnings, higher capital expenditure (capex) program, high dividend yield and an additional share repurchase program. However, these positives remain tempered by erratic global economic conditions and volatile commodity prices.
Conoco’s earnings outperformance in the previous quarter primarily reflects a hike in commodity prices and better U.S. refining margins. Further, strong proceeds from the divestiture of low-income generating properties and cost savings from the cancellation of unprofitable projects helped the company sustain its growth momentum.
Recently, the company disclosed its 2011 capex program, which allocates 90% for the Upstream segment, 9% for Refining and Marketing and the remaining for global information systems and corporate facilities. Conoco will primarily focus on the Eagle Ford Shale along with Permian, Bakken and Barnett Fields.
Further expenditures will be directed toward Canada (SAGD oil sands projects and Western Canada gas basins) and Alaska (Prudhoe Bay and Kuparuk Fields). The company is also poised to benefit from Asian projects in the pipeline, including opportunities in Malaysia and the APLNG project in Australia.
Importantly, a 20% hike in its quarterly dividend with a high dividend yield compared with its peers, as well as a $10 billion increase in share repurchase authorizations are also expected to boost shareholder value.
We remain optimistic on ConocoPhillips, given its leading position in both natural gas and heavy crude oil markets in North America, new exploration efforts and growing exposure to lucrative international regions.
However, unstable oil and gas fundamentals and a volatile macro backdrop keep us on the sidelines. Moreover, with the use of ethanol and other bio-fuels gaining popularity among the industry players, we believe that demand for petroleum-based refined products will recede. Consequently, this will likely dampen margins and earnings at ConocoPhillips’ Downstream segment.
ConocoPhillips, which competes against BP plc (BP) and ExxonMobil Corp. (XOM), currently retains a Zacks #3 Rank. This translates into a short-term Hold rating.
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