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Forbes: Market Spotlight: Oil Majors’ Earnings

Associated Press
By ADAM SCHRECK 10.01.07, 3:42 PM ET

NEW YORK: Even casual investors know there’s a link between rising crude prices and record oil company profits. Any driver fuming over gas at three bucks a gallon can tell you that.

Last month, oil futures topped the $80 mark for the first time and just kept on going. They continue to hover near record levels: light, sweet crude for November delivery closed Friday at $81.66.

That seems like it ought to be good news for Exxon Mobil Corp. and other integrated oil giants that wrapped up their third quarters over the weekend. But experts say a drop in refining margins could complicate things.

“It’s a mixed bag,” said Fadel Gheit, an oil analyst at Oppenheimer & Co. “Their upstream business, where they extract the oil, is going to do very well. But the refining business isn’t going to do well at all.”

Many players in the sector enjoyed a big lift in the second quarter when a series of refinery outages widened their profit spread. But as those plants came back online near the start of the third quarter, margins narrowed. In addition, a calm hurricane season over the summer kept refineries humming, and margins low.

Gheit, who rates the sector “Neutral,” said he expects the five majors – BP plc, Chevron, ConocoPhillips, ExxonMobil and Royal Dutch Shell plc – to post a 3 percent decline in profit, on average, compared with a year ago.

He is not the only one forecasting a potentially bumpy earnings season. The new chief executive of BP reportedly told staff in Houston that third-quarter revenue would be “dreadful” and said the company was in need of a massive restructuring.

BP, which has suffered from refinery shutdowns and production kinks, confirmed the meeting took place but said the focus was on operating performance.

Bank of America analyst Daniel Barcelo said other companies may also be at risk. “The downstream environment pressures faced by BP are not unique to the company, and some of the other global integrateds should witness a more significant impact to earnings,” he wrote in a note to investors last week. He specifically voiced concern about ConocoPhillips and Marathon, which both have major refining operations.

Independent refiners could be hit particularly hard, analysts say. At least three investment banks last week cut their quarterly estimates on companies such as Sunoco Inc., Tesoro Corp. and market leader Valero Energy Corp.

But experts say the downturn is largely seasonal and shouldn’t hurt investors’ portfolios long-term.

“With inventories near seasonal lows and fall maintenance set to be one of the heaviest seasons on record, we continue to believe the worst of margin weakness is already behind us,” Citi analyst Doug Leggate said in a client note.

As a result, oil is likely to stay popular with investors. And that’s even without incentives like the $15 billion share repurchase program introduced by Chevron last week.

“All these companies are generating really good cash flow because of the high commodity prices,” said Eric Marshall, director of research at Hodges Capital Management. A fund he advises has significant stakes in ExxonMobil, ConocoPhillips and drilling contractor Transocean Inc. “Long-term, we’re bullish,” Marshall said.

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