Source: LINN Energy LLC

LINN Energy LLC (NASDAQOTH:LINEQ) and LinnCo LLC (UNKNOWN:LNCO.DL) reported third-quarter results bright and early this morning. The results were a bit mixed as the portfolio reshuffle boosted third-quarter results, but will have a negative impact next quarter. Let's drill down a bit deeper and take a closer look at the quarter. 

First, the good news
LINN Energy's guidance for the third quarter was for production of 1,210-1,260 MMcfe/d and distributable cash flow of around $304 million. The company had no problems meeting its production guidance as the company produced 1,245 MMcfe/d, which is 51% higher than last year's third quarter. Even better, distributable cash flow topped its guidance as $329 million poured into the company's coffers this quarter. That was $88 million more than the company needed to cover its distributions to investors and represented a coverage ratio of 1.37 times.

However, about $80 million of that overage came from acquisitions where LINN Energy received cash flow from closing its acquisitions from ExxonMobil (NYSE:XOM), Devon Energy (NYSE:DVN) and Pioneer Natural Resources (NYSE:PXD). So, once this is stripped out the company's excess cash flow in the quarter was just $8 million, which represented a coverage ratio of 1.03 times. That's an adequate ratio, but still not as strong as we'd like to see.


Source: LINN Energy LLC

Now, the not so good news
Unfortunately, that's where the good news ends as LINN Energy is now projecting that the fourth quarter will be a bit on the weak side. While the company expects its production to grow to 1,350-1,405 MMcfe/d it does expect to end up with a shortfall of $94 million in cash flow next quarter. About half of this shortfall is from the sales of its Granite Wash assets and some of its Midland Basin acreage as LINN Energy will send $45 million to the buyers, which is similar to the $80 million LINN Energy received from sellers in the past quarter. However, even after adjusting for that LINN Energy will run about $49 million short of covering its distribution next quarter from its cash flow. That represents a rather weak 0.83 times coverage ratio.

What's next?
LINN Energy still has 6,600 net acres in the Midland Basin left to trade. The company noted in its third-quarter press release that it's still seeing strong interest to either trade or sell these remaining acres. It doesn't appear that the recent weakness in oil prices is having an impact on the sale process. However, the company is running low on time to complete the exit of the Midland Basin before the end of the year, which is the company's target. Ideally, we'd like know that outcome before the end of the year so that company can focus all of its attention next year on acquisitions that grow its distributable cash flow.

Speaking of next year, LINN Energy did note that 90% to 100% of its natural gas production is hedged through 2016. That's a good base as natural gas represents 48% of the company's production. Meanwhile, 60%-70% of its oil production is hedged next year and another 50%-60% is hedged in 2016. Ideally, we'd like to see 100% of its oil production hedged, especially as oil prices continue to weaken. This exposure to oil prices could prove to be a problem in the future if prices don't pick up.

Overall, LINN Energy is making progress toward its goals of providing more stability to its distribution. However, the company still faces headwinds as its distributable cash flow next quarter is weaker than we'd like to see. The company just hasn't been able to cross the threshold of consistently producing more than enough cash so that it can finally grow its distribution to investors.