Year-End Financial Reports are a Testament to Industry Woes
The returns are coming in, and it's safe to say 1998 was a year the
energy industry - particularly producers - would like to forget. Not all
energy sectors suffered equally, but shareholders in every energy province
have something to grouse about judging from earnings releases and analyst
Low prices clearly hit producers square on the nose while others were
relatively spared, noted Jofree Corp. analyst Carol Freedenthal.
The median stock in a universe of 279 publicly traded oil and oil service
firms tracked by Energy consulting firm John S. Herold Inc. returned a
negative 36.1% to investors. Herold's "Oil Share Market Performance
1998 Year-End Review" analyzed and ranked companies by stock market
performance. Losers overwhelmed gainers by a margin of 238 to 40 with one
issue unchanged. While in 1997 nine issues doubled in price and 30 did
so in 1996, not a single energy company's share price doubled in 1998.
"The exploration and production groups were devastated worldwide,
especially those with large future capital costs associated with their
undeveloped properties," said Robert E. Gillon, John S. Herold vice
president. E&P companies dominated the Herold survey with 147 producers
represented. "Results were as dismal as one might expect from the
commodity price behavior, perhaps worse. Only 12 E&P shares managed
to gain on the year, seven of which were Canadian-based and, as such, drew
some benefit from the weakening local currency. Notably, all 12 gainers
are principally focused on natural gas, by far the stronger of the commodities.
That might imply that battered oil producers have substantial recovery
Particularly discouraging is that producers who grew production, in
some cases substantially, were just spinning their wheels, making less
money than the year before because of depressed prices. Despite record
fourth-quarter production, Vastar Resources reported 1998 earnings that
are down 43% from the previous year. Last year's earnings were $136.4 million,
compared to $240.5 million in 1997. During the full year, Vastar total
production increased by nearly 9% to 1,289 MMcfe/d. Gas production was
988 MMcf/d, up from 882 MMcf/d in 1997. Average wellhead prices were down,
though, to $1.85/Mcf from $2.03/Mcf in 1997.
"Gas realizations for the full year of '98 were down 18 cents from
the prior year. This is in spite of about a 48-cent deterioration in the
benchmark Henry Hub price," said Vastar CFO Steve Shapiro during an
analyst conference call. "The difference between the 48 cents and
our 18 cents realized is primarily derived from a tighter basis, particularly
in the San Juan [Basin] and improvement in our hedge positions year over
year. Of that differential, about 20 cents came from the hedge, and about
four cents from the basis."
Despite Vastar's performance, the company was one among a handful of
E&P companies worldwide to achieve respectable market returns. Vastar
gave investors a nearly 22% total return, driven by Gulf of Mexico discoveries,
noted Herold, and was one of only two E&P companies worldwide to better
the return of the Dow Jones Industrial Average. The other was Alberta Energy
Ltd. with a more than 20% total return.
Similar to Vastar, Enron Oil &Gas Co. (EOG) 1998 net income was
less than half what it was in 1997 despite higher volumes, which could
be considered additional evidence Enron really is considering an "unsolicited
offer" to buy the company.
In December Enron notified the Securities and Exchange Commission it
received an unsolicited offer for its 53.5% share of EOG (see
NGI Dec. 21, 1998). The unnamed third party would acquire Enron's shares
in EOG and make an offer for all the outstanding shares. The third party
also would require Enron to dispose of certain other assets. In a research
note following an Enron analyst conference last week, PaineWebber said
Enron believes any EOG sale would be effectively balance sheet neutral.
Unlike Vastar, EOG total return to investors was negative 18%, according
In 1998, EOG had net income of $56.2 million, compared to $122 million
for 1997. The company posted record 1998 delivered volumes of 417 Bcfe,
up 13% on a per-share basis over 1997 volumes of 377 Bcfe. EOG North America
wellhead gas delivered volumes averaged 776 MMcf/d in 1998, up from 758
MMcf/d during 1997. North America wellhead gas prices decreased 15% to
$1.86/Mcf in 1998 compared to $2.20/Mcf in 1997.
Freedenthal said a continuing drop in oil prices could lead to supply-demand
equilibrium and price stability sooner than some people in the industry
seem to think. "Let's say we get back to some normal weather. I think
that could be sooner than some people think." He's heard others projecting
oil supply-demand equilibrium as far away as three to five years off.
While commodity prices are down, though, Freedenthal said he expects
more producer properties to come on the market. "I don't think there's
any question those that have the money will be out there buying things..
There's no question that at these prices reserves are worth a lot less
and you're going to have to write them down."
Pipelines, Diversified Companies Fare Better
Not all the news coming from year-end reports is bad. While producer
earnings were off sharply, pipelines and diversified companies generally
fared much better.
El Paso Energy earnings hit a new record for 1998, and each of the company's
operating segments was credited for the success. El Paso diluted earnings
per share rose 16% to a record $1.85 in 1998 from $1.59 in 1997. Consolidated
earnings before interest expense and income taxes (EBIT) for 1998 increased
to a record $644 million compared to $578 million in the year ago period.
"Each of El Paso Energy's operating segments had an outstanding
year in 1998, enabling the company to deliver substantial, high quality
earnings growth," said CEO William A. Wise.
El Paso's Tennessee Gas Pipeline, and El Paso Natural Gas Co., reported
1998 EBIT of $358 million and $217 million, respectively. Tennessee's earnings
increased 13% from 1997, while El Paso reported record throughput on its
system. Earnings from the company's non-regulated businesses -- El Paso
Field Services Co., El Paso Energy Marketing Co., and El Paso Energy International
Co. -- totaled $110 million compared to $48 million in 1998. Strong gains
in both the energy marketing and international segments contributed to
the significant increase. Full-year EBIT for El Paso Field Services was
$75 million. El Paso Energy Marketing's EBIT was $9 million for '98, compared
to a $28 million EBIT loss in 1997, while EBIT for El Paso Energy International
rose to $25 million compared to $2 million in 1997. El Paso Natural Gas
gave shareholders a 7% total return in 1998, according to Herold.
Spurred on by strong operations that fought through an arduous fourth
quarter, Duke Energy posted a 36% increase in annual earnings to $3.41/share
in 1998 from $2.51/share in 1997. Duke's revenues increased to $17.6 billion
compared to $16.3 billion in 1997. Earnings before interest and taxes (EBIT)
rose $540 million from the previous year, reaching $2.65 billion.
Duke gas transmission operations had to work hard to beat the fourth
quarter blues. For the year, EBIT was up 13% from 1997 to $702 million.
This total was bolstered by a pre-tax $39 million gain due to the resolution
of gas supply costs. Operating revenues fell $54 million dollars to $1.54
billion in 1998, but expenses also fell from $964 million in 1997 to $864
million in 1998. Duke's sale of Panhandle Eastern Pipe Line Co. and Trunkline
Gas were not included in the earnings report because it hasn't been completed
yet. Duke said it expects the deal to close this quarter.
Despite the warmest year since 1921 in Michigan and a lackluster fourth
quarter, CMS Energy reported net income rose to $284 million in 1998 from
$244 million in 1997. CMS total return to shareholders was 12.8% in 1998.
William McCormick, CEO, called 1998 "a year of tremendous business
development." Some new assets McCormick thinks will help the company's
future growth include the Panhandle Eastern Pipe Line and Trunkline Gas,
which it is buying from Duke Energy for $2.2 billion; the construction
and operation of a 550 MW, $240 million cogeneration power plant in Dearborn
MI; the acquisition of Tulsa, OK-based Continental Natural Gas for $153
million; and various international operations and purchases.
CMS' oil and gas exploration unit and its Consumers Gas Group were the
only two subsidiaries to experience declines. The oil and gas exploration
unit lost 76% of its net income compared with 1997 to finish at $6.4 million.
Consumers Gas Group reported a total net income of $51.6 million, down
from the 1997 totals of $60.1 million.
Unlike others in the group, Williams' performance faltered last year.
None of the company's three main subsidiaries matched 1997 earnings levels.
Total 1998 net income was $140.7 million, down from $368.3 million in 1997.
Williams total return to shareholders in 1998 was 11.5%.
Williams' gas pipeline businesses reported 1998 profit of $610.4 million,
down from $614.7 million for 1997. Expansions on the Transco and Texas
Gas systems combined with lower operating and maintenance expenses to bolster
earnings, and a fourth quarter $58 million charge for long-term supply
contracts hurt year-end results. Williams Energy Services registered the
largest year-to-year decrease of the subsidiaries, posting a 1998 profit
of $407.3 million, down more than $150 million from 1997.
Despite the disappointing results at affiliate EOG, Enron Corp. reported
a 16% increase in 1998 earnings per diluted share, led by wholesale energy
marketing operations. Earnings rose to $2.01/share from $1.74 in 1997.
Corresponding net income increased 36% to $698 million from $515 million
during the year. The comparisons are before non-recurring items and last
year's gain of $61 million, related to the sale of a 7% interest in Enron
Energy Services. Enron total return to shareholders was a strong 39.6%
"Across Enron, 1998 was an excellent year," said Kenneth L.
Lay, CEO. "Our Wholesale Energy Operations and Services business led
the company's growth during the year, achieving record levels both in volumes
of energy marketed and in earnings. In addition to positive developments
in our established businesses, Enron Energy Services has advanced to a
fully developed business with broad new capabilities to provide energy
outsourcing products to business customers across the nation,."
Enron achieved an almost 40% shareholder return during the year, significantly
above the very strong returns of the broader U.S. equity market, Lay said.
In 1998, Enron Energy Services (EES) incurred a loss before interest
and taxes of $119 million in 1998 compared to a loss of $107 million in
1997, or $(0.24) per diluted share in each year. The losses stem from ongoing
efforts to build the business. During the year, EES exceeded its contracting
objectives and signed contracts representing $3.8 billion of customers'
future energy expenditures. Based on both the current backlog of contracts
and contracting activity, EES expects to double the level of new contracts
to be added in 1999. In addition, earnings are expected to be positive
in the fourth quarter of 1999.
"Worth addressing," wrote PaineWebber's Ronald Barone, "is
that the Street often forgets to associate any value creation with the
ongoing losses at EES (losses which decrease Enron's earnings, 'artificially'
increasing its P/E). In short, this business could evolve into a key growth
driver by the turn of the century and should be given value today, despite
Joe Fisher, Houston