Why Laredo Petroleum Inc. Shares Plunged

Although we don't believe in timing the market or panicking over market movements, we do like to keep an eye on big changes -- just in case they're material to our investing thesis.

What: Shares of Laredo Petroleum Inc. (NYSE: LPI  ) are trading 7% lower this afternoon after recovering somewhat from an opening-bell plunge that shaved 10% off the stock's price. The market seems unwilling to cheer for Laredo's double beat on its fourth-quarter earnings, as the company's production guidance for 2014 is a rather tepid increase over its 2013 production figures.

So what: Laredo reported fourth-quarter revenue of $153.4 million, which beat Wall Street's $151.3 million consensus estimate, and its earnings of $0.13 per share also easily beat the $0.09 EPS consensus. However, the company's production guidance for the 2014 fiscal year, which ranges between 12.3 million and 12.7 million barrels of oil equivalent, or MMBOE, represents an 11% year-over-year improvement over the company's 2013 production of 11.2 MMBOE.

The upshot to this is that the percentage of oil Laredo expects to produce will rise to 58% over the 49% ratio of oil to natural gas the company produced in 2013. Assuming the company hits the midpoint of that guidance and realizes prices similar to what it earned in 2013, that could produce revenue of roughly $730 million in 2014 (a very rough estimate, to be sure) compared with 2013's $665 million in total revenue.

The kicker is that Laredo now expects to spend $1 billion in capital expenditures for 2014, a 35% boost over 2013's spending of $740 million. This is likely to depress Laredo's operating results and could even result in a net loss for the year, as the difference is over twice that of the company's baseline net income for 2013 and over three times as large as its adjusted net income for the year. Laredo has the liquidity to finance this expansion, but the discrepancy between production growth and the growth of capital expenditures have no doubt spooked some investors who have been patiently waiting for a serious boost in output.

Now what: Laredo isn't cheap at a 53.7 P/E, even after its drop, and the company's shares were already among the best-performing in a largely moribund oil and gas sector over the past year. There doesn't appear to be enough upside to Laredo's production in 2014 to justify its current valuation, and the cyclical nature of many oil and gas exploration stocks is likely to depress shares for a while. I'd stay on the sidelines for this one.

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