Conoco fattest US dividend offers 4% income not growth

April 16, 2012 11:27 AM

April 16 (Bloomberg) -- ConocoPhillips will court income- focused investors with a dividend yield quadruple that of its peers after spinning off its refining business this month to become more of a pure oil and natural-gas producer.

The plan to pay at least 4% will help compensate shareholders for production and earnings growth that trails rivals. The Houston-based company forecasts output will shrink 4.3% in 2012, before growing a compound 3% to 5% in subsequent years, compared with Marathon Oil Corp. and Anadarko Petroleum Corp.’s 5% to 7% estimates.

Paying the highest dividend of a major U.S. oil producer without cutting capital spending will challenge ConocoPhillips compared with its new competitors that have lower dividend burdens. Chief Executive Officer designate Ryan Lance gave an update to investors in a webcast today on the company’s outlook.

“Traditionally, E&P selling points are: No. 1, growth. No. 2, growth. No. 3, growth,” Pavel Molchanov, an analyst with Raymond James & Associates Inc., said of companies that focus on exploration and production. “Conoco’s will not be any of those three.”

ConocoPhillips’s annual dividend of $2.64 a share divided by its closing April 13 stock price of $73.63 produced a yield of 3.6 percent. The yield for the Russell 1000 crude producers’ index was 0.9%, with Exco Resources Inc. at 2.7%, followed by Occidental Petroleum Corp. at 2.4%, according to data compiled by Bloomberg.

Dividend Tradeoffs

Such a high dividend comes with tradeoffs for ConocoPhillips, whose earnings per share as a combined company excluding one-time costs and gains are forecast to rise less than 1% this year, according to analysts’ estimates compiled by Bloomberg. Anadarko’s adjusted profit may rise 38% in 2012, while Marathon Oil’s may climb 21%, estimates show.

The company may have to cut capital spending, sell more assets or use cash to meet obligations if oil prices decline next year, said Molchanov, who has a market perform, or hold, rating on the company’s shares and doesn’t own any. Molchanov said he doesn’t expect the dividend to be cut.

Paul Sankey, an analyst at Deutsche Bank AG, has estimated ConocoPhillips may need to sell $1 billion of assets annually to help fund the quarterly shareholder payouts in future years.

Rising Cash Flow

ConocoPhillips may have a “slight deficit” this year with estimated cash flow from operations of $16 billion, compared with capital spending of about $15 billion and $3 billion spent on dividends, Lance said today. The company expects to have enough cash to fund its dividend program this year, he said.

The company plans to boost profit margins and production by 3% to 5% each, compounded annually, meaning cash flow from operations may reach $22 billion a year by 2016, according to today’s presentation.

“Within a relatively short period, cash flow from operations should exceed our dividend and capex commitments,” Lance said, with excess cash flow being available for future growth and further distributions.

The company plans to return 20% to 25% of operating cash flow to shareholders, he said. ConocoPhillips also expects to make “opportunistic” share repurchases, he said.

Best 2012 Performer

ConocoPhillips has climbed 1.8% this year, the best performance on the six-member Standard & Poor’s 500 Integrated Oil & Gas Index. The index, which includes Exxon Mobil Corp. and Chevron Corp., fell 2% during that time. ConocoPhillips rose 0.7% to $74.16 at 2:32 p.m. today, remaining below a June 2008 high of more than $95 a share.

ConocoPhillips stands out among oil and gas explorers for its combination of dividend growth and potential for rising production, CEO Jim Mulva said during a March 5 presentation to analysts and investors. The company’s dividend is 66 cents a share each quarter and Mulva said he expects annual increases.

“We’re giving growth in distributions that you don’t get from the pure independent” companies, said Mulva, who plans to retire after the spinoff occurs.

Unofficial trading on April 13 of ConocoPhillips “when- issued” shares valued the company at $55.44 a share after it spins off its refining, chemicals and pipelines business into a new company called Phillips 66. That suggested a potential dividend yield of 4.8% and total market value of $70.6 billion, according to data compiled by Bloomberg.

Changing Ranks

“I think they’re going to position themselves so that they’re an attractive stock for individual investors as well as institutions looking for a dividend yield,” said Brian Youngberg, an analyst at Edward Jones in St. Louis. “In this current market environment, dividends go a long way.”

The spinoff will take the energy producer out of the ranks of integrated oil companies such as Exxon and put it at the top of a new peer group of independents, which focus exclusively on exploration and production.

Anadarko, currently the largest U.S. independent oil and gas producer based on its market value of about $37 billion, has a quarterly dividend of 9 cents a share and a yield of 0.5 percent. Apache, the nation’s second-largest independent, has a 17-cent dividend per quarter and a yield of 0.7 percent.

Exxon and Chevron, the two largest U.S. oil companies that integrate exploration and refining operations, also have dividend yields in the 2% to 3% range.

Uniquely Positioned

ConocoPhillips will be uniquely positioned after the spinoff, said Youngberg, who has a buy rating on its shares and owns none. The producer appears to have the cash flow to pay the dividend as well as invest in growth and buy back some shares over time, he said.

“They’ll have some definite characteristics from an investment standpoint of an integrated company, but without the volatility that refining and the other businesses provide,” Youngberg said.

ConocoPhillips is on track to have $5 billion of share repurchases in the first half, Lance told investors today. Another possible $5 billion in repurchases will depend on asset sales, he said. Lance said the company sees about $8 billion to $10 billion in divestitures, with some possible next year.

ConocoPhillips shouldn’t have a problem funding the announced dividend in the second half of this year, based on current oil prices, Molchanov said.

Raymond James estimates that Brent crude, a global benchmark, may average $95 a barrel in 2013, Molchanov said, which would be a drop from prices of about $120 in recent days. Funding dividends without actions such as cutting capital spending would be “considerably tighter” under lower prices, he said.

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