After gangbuster results earlier in 2011, giant integrated energy companies are set to report lackluster fourth-quarter earnings starting Wednesday, and it has a lot to do with the price of oil in London.
“The fourth quarter is going to be poor,” said Mark Gilman, an oil and gas analyst with the Benchmark Group. “The refining side is going to see very poor results.”
The results will take some shine off an otherwise strong 2011 for Big Oil as benchmark U.S. crude prices rose 20 percent and often exceeded $100 a barrel in trading on the New York Mercantile Exchange.
The major public oil companies – Exxon Mobil Corp., Royal Dutch Shell, BP, Chevron Corp. and ConocoPhillips – are expected to report that their refining arms took a hit in the quarter.
That’s partly because the price spread narrowed between the U.S. benchmark, West Texas Intermediate crude, and international benchmark Brent crude traded on London’s ICE exchange.
The tighter spread undermined refiners’ efforts to hedge their crude supply contracts by betting on differences between domestic and international prices.
Less successful hedges resulted in higher overall crude costs for refiners. That reduced their refining margins – the difference between the cost of crude and the price of refined products.
West Texas Intermediate traded at a significant discount to Brent throughout the second and third quarters – with the margin peaking at almost $27 on Sept. 6, when Brent reached $112.90, compared with WTI’s $86.02. In the fourth quarter, the spread declined to about $10.
But analysts see the situation as an anomaly that won’t affect 2012 earnings.
“These are one-off negative margins as a result of compression in the WTI-Brent spread,” said Blake Fernandez, an analyst with Howard Weill.
Strong for the year
And the integrated companies’ full-year-results for 2011 will still be strong, benefiting from crude prices that rose from $79.61 at the beginning of the year to $95.11 when trading closed Dec. 30.
“Earnings for pretty much everyone will be higher in 2011 than 2010, which makes sense, given where oil prices have been,” said Pavel Molchanov, an energy analyst with Raymond James. “For the most part, these are still very oil-centric businesses.”
Indeed, exploration and production profits helped offset the refining woes in the fourth quarter, according to investment firm Jefferies and Co.
The big companies are investing in exploration and production at a record level of more than $600 billion globally in 2012, according to Barclays analysts.
“A lot of these guys have under-explored in recent years and are now playing catch-up,” said Fernandez of Howard Weill. “With oil prices this high, it is more economic to find barrels in the ground than to make acquisitions.”
West Texas Intermediate closed Tuesday at $98.95, down 63 cents. Brent was down 55 cents at $110.03.
The fall in U.S. natural gas prices to under $3 per million British thermal units has had only a modest effect on the integrated companies.
Even with the investment push in the last couple of years, their exposure to the U.S. natural gas market is still small compared with independent producers.
ConocoPhillips, for example, has the highest investment in natural gas, yet gas is only 25 percent of its production. It is less than 5 percent of Chevron’s, Molchanov said.
ConocoPhillips and Exxon Mobil – which made a huge bet on natural gas when it purchased gas-producer XTO Energy for $41 billion at the end of 2009 – will feel the most effect from the depressed prices.
Leveling it off
Those companies will level off their natural gas investments, because natural gas prices aren’t expected to rise much anytime soon, said Allen Good, an energy analyst with Morningstar. Gas closed Tuesday up 2.9 cents at $2.55 per million Btu, boosted by Chesapeake Energy’s announcement Monday that it will shut in some production.
Natural gas prices are much higher overseas, but a warm winter in Europe reduced the typical seasonal upturn in demand and price.
Responding to continuing low natural gas prices, the big oil companies are showing more interest in acquiring and drilling in shale plays that contain oil and other liquids.