Chevron To Post Lower Earnings On Lower Volumes, Thinner Margins

Chevron (NYSE:CVX) is scheduled to announce its 2013 fourth quarter and full-year earnings on January 31. We expect the company’s full-year adjusted diluted earnings per share (EPS) to decline modestly on lower upstream production and thinner downstream margins. Price realizations are expected to improve slightly on higher commodity prices in the U.S., as the average West Texas Intermediate (WTI) crude oil price and spot natural gas prices have been up by more than 10% y-o-y during the fourth quarter. However, it would not have a huge impact on Chevron’s consolidated earnings as international commodity prices have been relatively flat and U.S. assets contribute just around one-third to the company’s overall upstream production. ^[1]

During the fourth quarter earnings call, we will be looking for an update on the company’s ongoing new project development, specifically the Gorgon liquefied natural gas (LNG) project in Australia, the Angola LNG project and the ongoing Deepwater projects in the Gulf of Mexico and offshore of Brazil.

We currently have a $123 price estimate for Chevron, which values it at around 10x our 2014 GAAP EPS estimate of $12.11, and is ~5% above its current market price.

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Lower Upstream Production And Thinner Downstream Margins

According to the fourth quarter interim update provided by Chevron, we expect the company’s upstream production to be lower year-on-year due to normal field declines, planned downtime across multiple assets in the Gulf of Mexico, maintenance activities in Australia and slower than expected production ramp-up from the Angola LNG project. ^[2] However, going forward we expect Chevron’s upstream production volume to improve during the current year as new projects under development come online and production from the existing ones is ramped up. (See: What To Expect From Chevron In 2014)

We also expect thinner refining margins to put Chevron’s downstream earnings under pressure. This has been more of an industry-wide trend in 2013 as global refining overcapacity amid the sluggish demand scenario coupled with higher crude oil prices, has squeezed refining margins. ^[3] However, year-on-year comparisons are expected to show an improvement from the third quarter, as crack spreads shrank during the prior year’s fourth quarter from significantly higher levels during the third quarter due to downtime at several refineries under maintenance or being upgraded. ^[4]

Going forward, we expect refining margins to continue to remain under pressure due to industry overcapacity, which stems from the fact that governments in different parts of the world are willing to run uncompetitive crude refineries at very low or no returns, in order to sustain employment and reduce their reliance on imported fuels. ^[5]

Updates On New Project Development

Chevron expects to boost its total upstream production by more than 20% to 3,300 thousand barrels of oil equivalent per day (MBOED) by 2017 from around 2,610 MBOED in 2012. The Gorgon LNG project forms the centerpiece of this aggressive production ramp-up plan, as it is expected to contribute over 200 MBOED to Chevron’s net production volume. ^[6] However, cost overruns and start-up delays weigh on the potential rate of return from the Gorgon Project. In 2011, Chevron announced a sharp $15 billion or a 40% spike in the total cost estimate for the project from $37 billion in 2009 to $52 billion. Last year, it further increased the total cost estimate by another $2 billion. ^[7] The estimates have gone up primarily due to rising labor costs, a stronger Australian dollar, productivity issues at the Barrow Island site, and weather delays. During the fourth quarter earnings call, we will be looking forward to an update on the Gorgon LNG project.

Apart from this, we will also be looking forward to an update on the $10 billion Angola LNG project, which reported its first shipment early last year. However, the LNG plant is currently operating at just around 20% of its full capacity due to supply side constraints. Chevron, which holds a 36.4% operating stake in the project, plans to ramp it up to its full capacity by the end of this year. (For more details on the project see: Chevron’s Angola LNG Project Will Help Slake International Gas Demand)

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1. Chevron SEC Filings, sec.gov [↩]
2. Chevron Issues Interim Update for Fourth Quarter 2013, chevron.com [↩]
3. Weekly Refining Indicators Report, howardweil.com [↩]
4. Refinery Margins, bp.com [↩]
5. Global overcapacity to squeeze oil refining margins: Campbell, reuters.com [↩]
6. Chevron Reaffirms 2017 Production Target, Highlights Future Growth, chevron.com [↩]
7. Chevron Announces $39.8 Billion Capital and Exploratory Budget for 2014, chevron.com [↩]