Lower Prices Slice Profits for Oil, Gas Companies

July 19, 2012 - 3:36 PM

Oil-Earnings Preview

In this Monday, July 2, 2012, photo, a fuel delivery truck leaves Arkansas Terminaling and Trading storage facility after taking on a load for gasoline and diesel fuel in North Little Rock, Ark. For oil and gas companies, the math was simple in the second quarter: lower prices equal lower profits.With gasoline prices averaging more than $3.40 per gallon nationwide, and oil around $90 a barrel, it may be hard to believe oil companies are under duress. Most will report profits measured in the billions of dollars for the quarter.(AP Photo/Danny Johnston)

NEW YORK (AP) — For oil and gas companies, the math was simple in the second quarter: lower prices equaled lower profits.

With gasoline prices averaging more than $3.40 per gallon nationwide and oil around $90 a barrel, it may be hard to believe oil companies are under duress. Most will report profits measured in the billions of dollars for the quarter.

But they earned less than a year ago — in some cases a lot less. That's because they had to sell oil and gas at lower prices. The average price for oil was 8.8 percent less from April to June. Natural gas prices have been especially painful. The average price dropped 46 percent compared with last year's second quarter.

This has made many gas drilling operations unprofitable, so companies have begun to cut back.

"We are all losing our shirts," said Exxon Mobil CEO Rex Tillerson in a speech recently. Exxon is the nation's largest producer of natural gas.

The cutback means companies that provide drilling services to oil and gas companies have had less work to do, which should equate to lower profits.

For refiners that buy oil and cook it into gasoline, though, the quarter was likely a good one. Many paid less for oil, but were still able to fetch high prices for their gasoline. And costs fell because they used low-priced natural gas to power some equipment.

Here's more on what to expect from energy companies in the second quarter:

OIL & NATURAL GAS

The drop in the price of oil and natural gas is good news for just about everyone but the companies that produce and sell them. The top U.S. oil producers — Chevron Corp., BP PLC, Exxon Mobil Corp., ConocoPhillips, Occidental Petroleum Corp., Royal Dutch Shell PLC, Anadarko Petroleum Corp. and EOG Resources Inc. — are each expected to post lower profits in the second quarter, according to FactSet. Exxon and Chevron could each report next week that net income fell by more than $1 billion.

Oil prices fell because new supplies came online just as a slowdown in the global economy reduced demand. Libya restarted its pipelines and oil fields shut down by last year's rebellion. Saudi Arabia pumped more oil to make up for an embargo of Iranian oil. And U.S. production is the highest since 1998.

At the same time, the financial crisis in Europe and weaker economic growth in the U.S. and China helped reduce demand for oil as drivers, shippers and travelers used less gasoline, diesel and jet fuel.

Drillers produced about 1.4 million barrels per day more than the market needed. This led to increased supplies and lower prices. The companies can't quickly cut costs, so the price drop can dramatically impact their bottom lines.

The warmest winter on record reduced demand for natural gas for heating. But U.S. drillers kept producing more of the fuel than ever. This led to a glut and fears that the nation's storage facilities would run out of room by this fall. Natural gas prices hit a ten-year low early in April. For the quarter natural gas prices averaged $2.35 per 1,000 cubic feet, compared with an average of $4.38 a year earlier.

Gas drillers cut back recently in hopes that prices will rise as production falls. Argus Research analyst Phil Weiss says that oil drillers may do the same.

In the meantime profits will take a hit. Devon Energy Corp.'s earnings are expected to fall by half, to 89 cents per share from $1.71 last year, according to FactSet. Chesapeake Energy Corp.'s profits are expected to slip to 10 cents per share from 76 cents per share, and Range Resources Corp. is expected to post earnings of 9 cents per share, down from 27 cents last year.

REFINERS

American refiners fared better in the second quarter. They were able to buy cheaper oil, while gasoline prices rose in some parts of the country.

Profits varied depending on where refineries bought their oil, and where they sold gasoline and other fuels.

Those with access to oil from the interior of the U.S. and Canada such as HollyFrontier Corp. and Tesoro Corp. had a big advantage. Oil production is booming in the middle of the country. But there isn't enough pipeline capacity to move the oil out, so supplies have reached their highest levels ever and prices have dipped.

Benchmark West Texas Intermediate crude sets the price for much of the oil produced in the interior of the U.S. It was more than $15 per barrel cheaper than Brent crude, which sets the price for crude produced offshore. Canadian crudes were even cheaper. Refiners with big operations on the East coast, such as Sunoco, bore the cost of buying more of the expensive, Brent-based crudes.

Refineries that sold their gasoline and diesel to the West Coast likely generated higher profits than others. Gasoline prices there rose by about 14 cents per gallon in the second quarter, compared with the same part of 2011, because of gasoline shortages. The national average fell by 8.4 cents per gallon in that same period.

Valero Energy Corp., HollyFrontier and Tesoro are expected to post higher profits in the second quarter, according to FactSet.

OIL SERVICE COMPANIES

Most of the biggest companies that help oil and gas companies find and produce oil and gas are expected to post lower quarterly profits.

Halliburton Co., Baker Hughes Inc. and Nabors Industries Ltd. should each report a decline. Schlumberger Ltd. is expected to see a slight gain, in part because it expanded in the Gulf of Mexico, where drilling activity is increasing.

These companies pump high-pressure fluids underground to unlock oil and natural gas in a process called hydraulic fracturing, or "fracking." They line wells with cement to keep them from leaking, and they provide drill bits, sensors, software and other equipment and services that are in constant demand during a drilling operation.

Competition rose among service firms for a dwindling number of projects, and contract rates fell. Some also encountered a strange problem: A shortage of guar, a bean grown mostly in India that thickens drilling fluid. Soaring prices for the stuff — which is also used to thicken ice cream — has reduced profits for companies such as Halliburton.

Halliburton's profit is seen falling to 77 cents per share from 80 cents per share last quarter. Analysts predict Baker Hughes's earnings will fall to 79 cents per share from 82 cents. Nabors' earnings are expected fall to 42 cents per share from 60 cents per share. Schlumberger, which reports Friday, is expected to see an increase to $1.01 per share from 94 cents.