Energy Sector - Third Quarter 2011 Issues

By Eric Fox | October 14, 2011 AAA

Earnings season in the energy sector for the third quarter of 2011 may be more interesting than usual, due to the recent volatility of the sector. Here are some issues and questions that are likely to be discussed by management and analysts during conference calls.
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Many investors are concerned that some exploration and production companies may not have the liquidity to fund capital spending budgets for 2011 and 2012. The companies that are suspected of having problems are likely to highlight the cash held on balance sheets, as well as borrowing availability under credit facilities, to convince skeptics otherwise.

Another issue related to capital spending is the sensitivity of these capital plans to volatile commodity prices. If oil prices fall further, some companies may start reducing capital plans, either because the economics don't make sense or the funding gap increases to a level at which cuts are necessary. Also, look for a Shermanesque refusal from exploration and production companies on the issue of raising capital to fund a gap through equity issuance. This is the kiss of death for a stock and even a whiff of this usually leads to a sell off.

Oil Services
The North American drilling cycle is the cornerstone of the energy sector, so much attention will be directed towards determining the resiliency of activity here. The management of Schlumberger (NYSE:SLB) usual gives an excellent review of business trends in North America, at the beginning of every earnings conference call.

So far there doesn't seem to be much evidence of any weakness in business trends in North America. Lufkin Industries (Nasdaq:LUFK) recently lowered earnings guidance to a range from 55 cents to 60 cents per share, compared to the previous range of 72 cents to 82 cents. However, none of the reasons for the weaker earnings were related to North American trends and were instead particular to the company.

Patterson-UTI Energy (Nasdaq:PTEN) announced that revenues in the third quarter of 2011 would be higher than analyst expectations, due to a higher rig count. The company is one of the largest land drillers in the United States. (For related reading, see Peak Oil: What To Do When The Wells Run Dry.)

Joint Ventures
Many exploration and production companies are looking for partners to share the cost of oil and gas development, and investors will look for any updates on any anticipated joint ventures. Chesapeake Energy (NYSE:CHK) has taken a lead in building a position in the Utica Shale in Ohio, and has publicly disclosed the company's interest in finding a joint venture partner in this play.

National Fuel Gas (NYSE:NFG) was looking for a joint venture partner on its Marcellus Shale acreage and disappointed investors in August 2011, when the company announced that it could not come to an agreement with two separate parties.

Stealth Plays
Many exploration and production companies are secretive when accumulating acreage in a new area, so that competitors won't enter the play and force prices up. Newfield Exploration (NYSE:NFX) has been working on a new oil bearing play and reported more than 100,000 net acres under lease as of July 2011. Newfield Exploration may use the third quarter conference call to disclose additional details.

The Bottom Line
Investors who are not sure which stock to buy in the energy sector to play a rebound, can use exchange traded funds (ETF) as an alternative. The SPDR S&P Oil & Gas Exploration & Production ETF (NYSE:XOP) and the SPDR S&P Oil & Gas Equipment & Services (NYSE:XES) ETF attempt to replicate sub indexes of the overall market. (For related reading, see ETFs Provide Easy Access To Energy Commodities.)

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