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Since 2011, ConocoPhillips (NYSE: COP ) has been on a mission to dispose of far-flung, global assets with lower margins and to replace those assets with higher-margin assets in developed countries, or OECD countries. For example, over the past three years management has disposed of assets in Kazakhstan, Algeria, and Nigeria while acquiring and investing in U.S. shale oil, Canadian oil sands, the Gulf of Mexico and the North Sea.
While Conoco does have a new focus on these OECD geographies, one clear takeaway from the company's analyst meeting is that Conoco will remain a global producer. A good portion of the company's exploration and appraisal efforts is taking place in 'international' geographies. For example, this year Conoco will explore and appraise in Poland, Senegal, Angola and mainland China. Considering that Conoco recently disposed of many international assets, it seems strange that the company is eager to pick up international acreage once again.
2017 and beyond
The majority of Conoco's 3%-5% annual production growth through 2017 will come from the U.S. and Canada. These projects are classified as 'development' projects because exploration and appraisal have already been completed. Today, most exploration and appraisal projects are meant to be developed in 2018 and beyond. It is the latter projects that will define Conoco's longer-term prospects.
As the chart above shows, the majority of exploration and appraisal capital this year will be allocated to OECD locations. However, a good portion is also in international geographies.
But if Conoco is refocusing its efforts back to OECD countries, where returns and margins are, in general, greater, why not go 'whole hog'? Sure, exploration in the Niobrara, the Wolfcamp, and Duverney is great, but why not also make a move in another new shale, the Tuscaloosa Marine Shale? If Conoco really is interested in maximizing growth and returns, should the company not then discontinue operations in places like China, Bangladesh, and Senegal, where commercial drilling is unlikely to commence, and put that capital into untapped shale plays in the U.S.?
Investors must remember that while Conoco is refocusing, management still wants the company to be a low-risk investment. One of the best ways to mitigate risk is to diversify geographical holdings. Conoco continues to explore these areas to keep a varied mix of geographies in the future. Some of these international geographies have questionable prospects, but there are some bright spots. For example:
- Indonesia-Conoco is exploring and drilling in offshore fields first mapped before World War II. Conoco believes that Indonesia will yield deepwater oil at a reasonable cost of business.
- Poland- Initial gas exploration in Poland has been encouraging. The Polish government may be much more interested in developing domestic gas resources given current events. Poland is an exception to the "not in my backyard" mentality which most Europeans hold regarding drilling.
- Angola-A search for gas sources in Angola follows Chevron's successful Angola LNG project. Although the cost of doing business in Angola is also very high, the success of other major companies makes Conoco's Angola project much less risky.
While Conoco may be refocusing on higher-margin returns in OECD countries, the company is still a large oil and gas company with the intention of remaining a 'low-risk' investment. For oil and gas producers, some geographical diversity is an important part of mitigating risk. Therefore, management has decided not to put all its eggs into one basket.
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