It's amazing how quickly things change in the energy industry. In September, Continental Resources (NYSE:CLR) announced that it was stomping on the accelerator and increasing its capital spending plan for the balance of 2014 while also increasing its spending plan for 2015. Now, just a few short months later the company is cutting its 2015 spending plan again as it reacts to the unrelenting sell off in oil prices, which has taken its stock down with it.
Details on the new guidance
Continental Resources' revised capital budget for next year is a dramatic reduction from where the company started in September. At that time, the company had just accelerated its 2014 spending plan from its original guidance of $4.05 billion all the way up to $4.55 billion. In addition to that, it announced that its 2015 budget would be accelerated further to $5.2 billion. Those funds would be used to grow production by 26%-32% over its 2014 level.
However, as oil prices started to fall so did the company's budget. In November the company reduced its 2015 budget to $4.6 billion, which is roughly in line with what it spent in 2014. However, given the unrelenting fall in oil prices the company is now slashing its 2015 plan all the way down to $2.7 billion. That's an almost 50% reduction in spending from its original level, which is actually in line with the cuts we're seeing from many other shale focused producers. That being said, even with those deep cuts the company still plans to grow production by 16%-20% next year.
Bold bet gone bad
One of the reasons Continental Resources is cutting its budget so dramatically is because it's planning to align its spending with cash flow. That cash flow is expected to drop significantly after the company's bold bet to scrap its oil hedges appears to have come back and burnt the company as oil prices have continued to sell-off. With no protection against falling oil prices, the company needed to adjust its spending in order to avoid going into debt to fund the difference if prices didn't improve.
Continental Resources wants to avoid piling on any more debt as there's a growing worry that energy related debt could be a big problem down the road if oil prices don't improve. The company wants to avoid some of the issues facing its peers by maintaining its good credit rating, which was upgraded to investment grade late last year. The only way to do that right now is to slow down spending until the oil market improves. It's the right move as it should ensure the company's survival if the oil market stays depressed for a long period of time.
Continental Resources is taking the necessary action to rein in spending until the oil market settles down. While the company might not have had to cut spending as dramatically if it didn't cash in its oil hedges, at least it's avoiding a second mistake by bridging the gap with debt. That will at least put the company in a position to accelerate spending whenever the oil markets do recover in the future.