Monday's Wall Street Journal reports that integrated energy company ConocoPhillips
ConocoPhillips made the June watch list of our Motley Fool Inside Value newsletter, which saw real value in the company's oil refining operations. While refining as been the lowest-margin segment of the oil industry, refining capacity limitations have allowed the company and its competitor Valero
ConocoPhillips is running its refining operation at full capacity, and it takes years to build new refineries. Analysts expect the company to record only 5% annual growth over the next five years. That's not fast growth -- though it will certainly be profitable -- but the stock is only trading at seven times earnings and paying a 2% dividend. That hardly reflects the company's rapidly declining debt level, or its potential to pay higher dividends if returns remain at such high levels.
Burlington Resources has made an equally impressive reduction to its net debt, and analysts estimate the company will continue to grow earnings by 11% annually for the next five years. Burlington holds an impressive number of natural gas assets in North America. Tightening supplies of U.S. natural gas have produced generous profits for Burlington.
Long-term natural gas prices are important. Since liquid natural gas costs $3.50 per thousand cubic feet (Mcf) to produce and deliver, today's $14-plus NYMEX price for natural gas is arguably inflated, especially when you consider that 2004's prices hovered around $6 per Mcf.
So is ConocoPhilips buying a mostly natural gas company at a time of inflated prices? Yes, but the important question is this: Will it lose out as long-term prices fall? I sincerely doubt it.
When other companies were running away from refining, ConocoPhillips bet big and won. It'll be betting big again if it purchases Burlington Resources. A buyout will signal that ConocoPhillips sees natural gas prices staying higher for longer than people expect -- a relatively important message to the markets.
Without a deal on the table, it's too early to say whether the company will pay too much for Burlington. At today's prices, ConocoPhillips still looks like a money machine selling at a discount -- prime Inside Value territory. At an all-time high sale price, Burlington Resources might be richly valued by some standards. Still, that all depends on what natural gas prices have in store.
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