KG: Look Ahead to June 2009 Quarterly Results

[This is the 500th article to be posted on the Gauging Corporate Financial Results web site.  Since the first article was posted on 22 October 2006, there has been an average of one new article every other day.]

The GCFR Overall Gauge of King Pharmaceuticals (NYSE: KG) edged up from 23 to 26 of the 100 possible points in the first quarter of 2009, which ended on 31 March.  Our analysis report explained this result in some detail.

The March quarter was King's first with Alpharma as a wholly owned subsidiary.  King Pharmaceuticals completed a $1.6 billion acquisition of Alpharma on 29 December 2008.


Revenue in the quarter was just slightly less than King's Revenue in the same period of 2008.  However, this was not an apples-to-apples comparison.  The recent quarter included revenues from Alpharma products and the earlier quarter did not.  The new acquisition-gained revenues masked the sharp drop in sales of some of King's other products.  According to the 10-Q, sales of branded prescription pharmaceuticals fell $92 million (25 percent!) in the quarter.

The first quarter of 2009 included more than $73 million in acquisition and restructuring charges.  Net Income fell to negative $11 million (minus $0.04 per share), compared to earnings of $88 million ($0.36 per share) in the first quarter of 2008.   Earnings in the March 2009 quarter would have been $64 million ($0.26 per share) if there had been no special items.


We have now modeled King's Income Statement for the second quarter, which will conclude on Tuesday.   The intent of this exercise was to produce a baseline for identifying deviations, positive or negative, in the actual data that the company will announce in early August.  GCFR estimates are derived from trends in the historical financial results and guidance provided by company management.

Given the Alpharma integration, some substantial challenges, and the uncertain possibilities of new products, our model's range of uncertainty is much wider than normal.  If new information comes to light that reduces the uncertainty, we will revise our estimates as expeditiously as possible.


First, we set the stage with some background information about King and the business environment in which it is currently operating.  Readers that keep close tabs on the company are invited to skip ahead.

King Pharmaceuticals, Inc. (NYSE: KG), headquartered in Bristol, TN, manufactures and sells various brand-name prescription pharmaceuticals.  The Alpharma acquisition added animal health products to the business.

Medications for treating acute and chronic pain are becoming more and more important to King.  With Alpharma, King got the Flector® Patch "prescription topical treatment for acute (short-term) pain due to minor strains, sprains, and contusions (bruises)."  The active ingredient in Flector, which had sales of $17 million in the first quarter, is a nonsteroidal anti-inflammatory drug.  We suspect King also hoped to keep Alpharma's Kadian® drug for the treatment of moderate to severe chronic pain; however, to maintain the competition with King's Avinza product, the Federal Trade Commission required the divestiture of Kadian.  Iceland's Actavis purchased it for $127.5 million.

King has several high-tech, pain-killing medications under development that require regulatory approval.  Many obstacles have to be surmounted before each new product can be launched.  Just a few days ago, King announced that it no longer expects to obtain fast-track U.S. FDA approval for the Acurox® Tablets, an opioid analgesic (oxycodone hydrochloride and niacin) product it is developing with Acura Pharmaceuticals (NASDAQ: ACUR).

The Acurox situation seems to echo the disappointment last December when the U.S. FDA responded it would require additional non-clinical data before it would consider approving the abuse-resistant painkiller Remoxy®, which King had been developing with Pain Therapeutics, Inc. (NASDAQ: PTIE).  King has now "assumed full control" of all activities related to Remoxy development.  King hopes to respond to the FDA in July 2009.

The FDA did signal that new opioid pain-killing drugs could eventually be approved.

Pain medications are becoming more important to King because existing products are now facing, or will soon face, generic competition.  In January 2009, a U.S. District Court acted to invalidate two U.S. patents relating to Skelaxin® (metaxalone), a muscle relaxant.  Skelaxin sales were $446 million in 2008, according to King's 10-K.  This amount was 28.5 percent of the company's total Revenues.

In 2007, the U.S. Court of Appeals invalidated King's patent for Altace® (Ramipril).  This ACE inhibitor, used to treat patients with cardiovascular risks, had accounted for roughly 1/3 of King's net sales.  The Court's decision resulted in King recognizing asset impairment charges (covering intangible assets and inventory) totaling $250 million and King dismissing 20 percent of its staff.


We are now ready to look forward.

We started by rereading the transcript at SeekingAlpha.com from King's conference call with financial analysts on 11 May 2009.  This is a good place to learn about corporate management's expectations.

When compared to the first quarter of 2009, Revenue in the June quarter should benefit from the end of a Flector inventory adjustment that reduced sales by about $15 million.  Other things remaining the same (they won't), then Revenue in the June quarter might be about $429 million + $15 million = $444 million.  However, we wouldn't be surprised to see a further decline in the sales of branded prescription pharmaceuticals, although we're not sure of the magnitude.  In recognition of this concern, we will round down the Revenue estimate to $440 million.

We hope it is clear that this figure is intended to be a rough guess.

The Gross Margin guidance from management for 2009 is 68 percent.  It was closer to 70 percent in the first quarter, so it might be a little less in the remainder of the year.  For the second quarter, we will stick to the guidance value and see if a readjustment is needed later.  Given our Revenue estimate, the Cost of Goods Sold (CGS) should be about (1 - 0.68) * $440 million = $141 million.

The company expects Depreciation and Amortization expenses for all of 2009 between $220 and $225 million.  Taking into account the actual figure recorded in the first quarter, we come up with an estimate of $56 million for the second quarter.

Similarly, management indicated that Research and Development expenses in 2009 would be between $100 and $110 million.  Given this, it seems reasonable to assume that R&D in the second quarter will match the $27 million of the first quarter. 

Management reiterated their guidance that annual Sales, General, and Administrative expenses would be between $560 and $580 million.  With the delay in marketing campaigns for new product launches, we will set our second-quarter target at $140 million.

We wouldn't be surprised to see a non-recurring operating charge, but we have no information to justify any particular figure. 

The estimates above would lead to Operating Income for the quarter of $76 million, which would be 32 percent than the equivalent (but non-Alpharma) figure in the second quarter of 2008.

Net interest payments are expected to be about $17.5 million per quarter, and the predicted Income Tax Rate is 37 percent.  These figures bring Net Income down to $37 million ($0.15 per share), compared to $43 million ($0.18 per share) in the June 2008 quarter.


Please click here to see a full-sized, normalized depiction of the projected results next to King's quarterly Income Statements for the last couple of years.  Please note that our organization of revenues, expenses, gains, and losses, which we use for all analyses, can and often does differ in material respects from company-used formats.  The standardization facilitates cross-company comparisons.




Full disclosure: Long KG at the time of writing. No position held in any other firms mentioned in this article.

Documenting Changes to Our Gauges

During the two-year-plus life of this blog -- this is post #499 -- we have made frequent small adjustments to our gauges of corporate financial performance and value.  It isn't unusual for us to tinker with some factor multiple times until we get comfortable with it.

The following are the types of changes that we have made (and are likely to make again):

• Add or delete a financial metric from a category gauge
• Alter the relative weights of the various metrics used to compute one of the category gauge scores
• Alter the relative weights of the category gauges when determining the Overall Gauge score.

The changes have been intended to make our analyses more accurate, complete, and insightful and, if possible, make the gauges better indicators. 

The catalyst for a change might be a belated realization that we had not been giving some aspect of a company's finances sufficient attention.  Or, we might have discovered that a financial ratio we relied on produces misleading results under certain circumstances.  It might also be recognition that a certain factor provides a better or worse indication of future results that we had first thought.


Our second-quarter 2009 analyses will include an additional Growth metric: the annual growth in Operating Profit after Taxes, when averaged over 4 years.  We have long wanted to add a multi-year assessment of company growth, but we've found Net Income to be too much affected by non-operating items as well non-recurring operating items.

We will also start, as part of an experiment, to compare Price/Earnings ratios to this Operating Profit growth rate to create a (better, we hope) variant of the well-known PEG ratio.

Although we've tried, we haven't done a good job at communicating these changes to readers.  We resolve to do better.  Too often, we have simply referred to "algorithm tweaks" to explain scoring changes.

As a first step, we have revised the descriptions of the GCFR dashboard and the Cash Management, Growth, Profitability, Value, and Overall gauges.  These posts were some of the first items published on this blog, and they had not been kept up with the changes we had made since.

BR: Look Ahead to June 2009 Quarterly Results

The GCFR Overall Gauge of Broadridge Financial (NYSE: BR) plummeted from 60 to 31 points in the March 2009 quarter.  Our analysis report for the third quarter of the company's fiscal 2009 explained this result in some detail. 

The large drop in the score was exaggerated by Broadridge's yo-yo share price movement and its limited 2-year existence as an independent company.  The GCFR gauges tend to be more volatile when the subject firm is less than, say, five years old.  Score volatility is also common when a major corporate merger or restructuring makes the financial history less relevant.

In the March 2009 quarter, earnings per share rose from $0.21 in 2008 to $0.29 in the current year.  More than half of this increase was, however, due to a non-recurring $7.3 million ($0.05 per share) state-tax credit.  The credit had the effect of reducing the effective income tax rate from about 38 percent to 24.3 percent.  Revenue in the March quarter fell by 3.5 percent relative to the year-earlier period.  In addition to the tax credit, lower Sales, General, and Administrative expenses were also a positive feature of the March quarter. 

When examined carefully, the results were not deemed by our gauges to be commensurate with the 48 percent rise in Broadridge's share price, from $12.54 to $18.61, during the first three months of calendar 2009.


We have now modeled Broadridge's Income Statement for the June 2009 quarter.  The intent of this exercise was to produce a baseline for identifying deviations, positive or negative, in the actual data that the company will announce in early August.  GCFR estimates are derived from trends in the historical financial results and guidance provided by company management.


First, we present some background information.


Broadridge Financial Solutions, Inc. (NYSE: BR) provides investor communication, securities processing, and clearing services to financial companies.  Automatic Data Processing, Inc. (NASDAQ: ADP) spun off Broadridge on 30 March 2007. 

Although not a household name, Broadridge received "Top Overall Honors" in the 2008 survey of brokerage process service providers.  According to its 10-K, Broadridge's Securities Processing business in fiscal 2008 handled fixed-income trades valued at approximately $3 trillion per day.  This business includes processing of transactions involving equity and fixed-income securities in the U.S and in various other markets.

In March 2009, Broadridge announced an alliance with Beacon Capital Strategies, Inc.  Beacon "operates a marketplace dedicated to providing liquidity and electronic trading in the less-liquid fixed-income market."  The alliance is intended to "help the firms' clients locate difficult-to-find securities."  The types of securities involved include mortgage-backed securities, asset-backed securities, and collateralized mortgage obligations.

The Investor Communication Solutions business segment was responsible for more than 70 percent of Broadridge's revenue in fiscal 2008, according to the 10-K, and an even greater share of pre-tax earnings.  The services provided by this segment include the distribution and processing of proxies for public companies and mutual funds.

As a result of the credit crisis, this is a challenging time for companies reliant on customers in the financial industry.  For example, Lehman Brothers was a Broadridge client.  Broadridge made the best of the situation by signing a three-year contract for clearing services with asset manager Neuberger Berman, an erstwhile Lehman subsidiary.

The company's success at handling current economic challenges was recognized in February by Standard & Poor's, which revised its ratings outlook on Broadridge from positive from stable.  S&P recognized "the company's focus on reducing debt and its stable profitability."

The share price fell a disheartening 44 percent in 2008, sinking as low as $9.72 in late November.  However, the shares have rebounded substantially in 2009.

Broadridge had one unfortunate moment in the spotlight.  A Broadridge error caused Yahoo! Inc. (NASDAQ: YHOO) to under-report votes withheld from board members at its highly publicized shareholder meeting. 


We are now ready to look ahead. 

Broadridge updated its guidance for the remainder of fiscal 2009, which ends this month, when it reported results for the March 2009 quarter.

Fiscal Year 2009 Financial Guidance

We are increasing the fiscal year 2009 GAAP earnings per share guidance range to $1.52 to $1.62 from $1.49 to $1.59, and we are reaffirming our Non-GAAP earnings per share guidance range of $1.45 to $1.55, which excludes the one-time gain from the purchase of our Senior Notes and the state tax credit true-up benefit for the prior fiscal year. The earnings per share guidance is based on diluted weighted-average shares outstanding of approximately 142 million shares.

We are reaffirming our full year net revenues guidance of -3% to flat, and expect net revenue growth will be at the mid-point to lower end of the range, primarily as a result of lower event-driven mutual fund proxy revenues, a further reduction in distribution fees resulting from higher Notice and Access adoption rates, as well as continued decline in trade activity and margin balances. We anticipate earnings before interest and taxes margins in the range of 16.0% to 16.9%, which is slightly lower than our previously provided guidance of 16.2% to 17.1%, due to the decline in revenues somewhat offset by discretionary cost containment. Our effective annual tax rate will be approximately 38% as a result of the benefit from the recurring state tax credit.

Free cash flow is expected to be in the range of $230 million to $270 million, which is higher than our previously provided guidance of $210 million to $250 million, as a result of lower needs of cash for working capital and capital expenditures. We are anticipating closed sales for fiscal year 2009 to be in the range of $160 million to $180 million.

[emphasis added]

In fiscal 2008, Broadridge's Revenue was $2.208 billion.  Given the guidance of Revenue growth at the "mid-point to lower end" of the zero to -3 percent range, we will assume that fiscal 2009 Revenue will be 2 percent lower than 2008.  Therefore, the Revenue target for the current fiscal year is (1 - 0.02) * $2.208 billion = $2.164 billion.

Revenue was $1.413 billion in the nine months through Meach 2009.  This leaves Revenue of $751 million for the current quarter.  This estimate is 5 percent less than the June 2008 quarter's Revenue of $792 million.

Note that Broadridge's Revenue exhibits a seasonal pattern in which the June quarter is much stronger than any of the others.  Revenue in June quarters is 35 to 37 percent of the annual total.

In the June period of the three previous fiscal years, Broadridge's Gross Margin was about 31 percent of Revenue.  We will assume a similar proportion in the current quarter.  Given our Revenue estimate, the Cost of Goods Sold (CGS) -- called Cost of Net Revenues on Broadridge's Income Statement -- is estimated to be (1 - 0.31) * $751 million = $518 million.

Sales, General, and Administrative expenses averaged 8.3 percent in the last three June quarters.  We will round down to 8 percent for the current quarter because Broadridge has had some success cutting costs.  Therefore, our estimate for SG&A is 0.08 * $751 million = $60.0 million.

With these estimates, we get a projected Operating Income, as we define it, of $172.6 million.  This is 2.1 percent less than Operating Income in the June 2008 quarter.

Our estimate for the June quarter of non-operating income and expenses -- items that have been erratic at Broadridge --  is for a net gain of $4 million.  This would bring pretax income to $176.6 million.  If the Income Tax Rate is 38 percent, Net Income in the quarter would be $109.5 million ($0.77 per share), compared to $97.8 million ($0.69 per share) in the June 2008 quarter.

For the fiscal year, our estimates would result in Net Income of $216 million ($1.53 per share).  In fiscal 2008, Net Income was $192 million ($1.35 per share).  We're right at the bottom end of the company's guidance for GAAP earnings. 



Please click here to see a full-sized, normalized depiction of the projected results next to Broadridge's quarterly Income Statements for the last couple of years.  Please note that our organization of revenues, expenses, gains, and losses, which we use for all analyses, can and often does differ in material respects from company-used formats.  The standardization facilitates cross-company comparisons.





Full disclosure: Long BR at time of writing.

ADP: Look Ahead to June 2009 Quarterly Results

The GCFR Overall Gauge of Automatic Data Processing (NASDAQ: ADP) slipped a bit, from 61 to 57 of the 100 possible points, in the March 2009 quarter.  Our initial and updated analysis reports for the third quarter of the company's fiscal 2009 explained this result in some detail.  (An algorithm adjustment after the update was published cut ADP's score from 59 to 57.)

In the March quarter, ADP's earnings per share increased from $0.79 in 2008 to $0.80 in 2009.  Revenue in the recent period slipped 2.2 percent, which ADP attributed to the weak economy and the stronger dollar.  Fortunately for ADP, lower operating costs (especially SG&A) more than compensated for the Revenue decline.  Operating Income increased by a small amount, and Net Income, which was adversely affected by a charge related to the company's investment in the Reserve Fund, was basically flat.

Of our four gauges, the contrary Value gauge is currently strongest for ADP at 16 of 25 possible points.



We have now modeled ADP's Income Statement for the final quarter of fiscal 2009, which will end on 30 June.  The intent of this exercise was to produce a baseline for identifying deviations, positive or negative, in the actual data the company will announce on 30 July.  GCFR estimates are derived from trends in the historical financial results and guidance provided by company management.



First, we set the stage with some background information about the company and the business environment in which it operates.

Automatic Data Processing, Inc. (NASDAQ: ADP), with over 500,000 clients, is the largest firm providing payroll and other personnel-related information technology services.   The company is also known for the monthly ADP National Employment Report on non-farm private employment.

ADP is one of a mere handful of U.S. companies with a AAA bond rating, and it is a member of the "shrinking universe," as David Templeton so aptly expressed it, of S&P 500 Dividend Aristocrats.  ADP has hiked its dividend for 34 consecutive years, including a 14 percent increase last November.

As a payroll processor, ADP feels the effects of decreased employment in the U.S.

ADP competes for clients with numerous large and small, public and private, business software and services companies.  In the U.S., the IRS lists 24 payroll service providers that have satisfied its requirements for electronic submissions.  Paychex, Inc. (NASDAQ:PAYX) and now-private Ceridian are probably the names most familiar to investors.  We wouldn't be surprised if India's Wipro (NYSE: WIT) is also a competitor or will become one.

In 2007, ADP divested its Brokerage Services Group business, which became Broadridge Financial Solutions (NYSE: BR).




We're now ready to look ahead.

In ADP's press release announcing March's quarterly results, which was issued on 5 May 2009, the company updated its forecast for the remainder of the fiscal year.  Some excerpts are listed below:
 

Fiscal 2009 forecast

"We continue to anticipate achieving 1% to 2% revenue growth, and the low end of our 10% to 14% growth forecast in diluted earnings per share from continuing operations, up from $2.18 in fiscal 2008 which excludes the net one-time gain of $0.02 per share recorded in the fourth quarter of fiscal 2008. Our revenue growth forecast for the year is negatively impacted approximately two percentage points due to our assumption of unfavorable foreign exchange rates continuing for the remainder of the fiscal year.

"Our business segment forecasts are also unchanged.  [...]

"There is no change to our interest on funds held for clients forecast. We continue to anticipate a decline of $75 to $80 million, or 11% to 12%, from $684.5 million in fiscal 2008.  [...]

"We continue to expect interest expense to decline about $50 million from $80.5 million in fiscal 2008 primarily from lower interest expense on our short-term financing related to our client funds extended investment strategy. Our average commercial paper borrowing rates are expected to decline approximately 320 basis points to about 1.0%, partially offset by an expected increase of about $0.5 billion in average daily commercial paper borrowings to about $2.0 billion.

[emphasis added]

We've noted previously that guidance in terms of Earnings per Share (EPS), instead of Net Income, enables management to satisfy expectations by increasing share repurchases.

Since Revenue in fiscal 2008 was $8.776 billion, the latest guidance translates into a fiscal 2009 Revenue projection of (1.01 to 1.02) * $8.776 billion = $8.864 billion to $8.952 billion.  We will split the difference and use $8.91 billion as the projection for the fiscal year.  Revenue in the first three quarters of fiscal 2009 was $6.76 billion, which leaves $2.15 billion for the June quarter.

The Gross Margin was 54.2 percent of Revenue in the first three quarter of fiscal 2009.  From ADP's historic record, we have observed that the Gross Margin in the June quarter is typically between 0 and 0.4 percent less than the average of the three previous quarters.  Therefore, for the June quarter, we project a Gross Margin of 54.2 - 0.2 = 54.0 percent.  This is equivalent to forecasting that the Cost of Goods Sold (CGS) -- what ADP calls "Operating Expenses" -- will equal (1 - 0.54) * $2.15 billion = $990 million. 

Depreciation and amortization expenses have been around $60 million in each of the last seven quarters.  We have no reason to expect a different figure in the June 2009 quarter. 

Similarly, recent quarters suggest that Research and Development (R&D) expenses ("Systems Development and Programming Costs") will probably be about $120 million.

At $520 million, Sales, General, and Administrative (SG&A) expenses in the March quarter were much lower than recent quarterly figures.  However, the historical record would argue against expecting a similar value in the June 2009 quarter.  In the last five years, the June quarter has been responsible for between 27 and 29 percent of the fiscal year's total SG&A expense.  With this as a guide, our June target for these expenses becomes $630 million.

Rolling up these expense estimates yields a target for Operating Income, as we define it, of $350 million.  This is 11.6 percent greater than Operating Income in the June 2008 quarter.

For net non-operating income (i.e., other income less interest expense), $20 million would seem to be a reasonable estimate based on recent data. 

If the Income Tax Rate remains at 36 percent, Net Income will be $237 million ($0.47 per share, depending on share repurchases).  In the year-earlier quarter, Net Income from continuing operations was $226 million ($0.435 per share).



Please click here to see a full-sized, normalized depiction of the projected results next to ADP's quarterly Income Statements for the last couple of years.  Please note that our organization of revenues, expenses, gains, and losses, which we use for all analyses, can and often does differ in material respects from company-used formats.  The standardization facilitates cross-company comparisons.







Full disclosure: Long ADP at time of writing.

TDW: Look Ahead to June 2009 Quarterly Results

The GCFR Overall Gauge of Tidewater Inc. (NYSE: TDW) increased from 58 to 64 points of the 100 possible points in the March 2009 quarter, which was the fourth of the company's fiscal 2009.  Our analysis report explained in some detail how this score was attained.

Revenue in the March 2009 quarter was only 3.1 percent greater than in the year-earlier period, but lower costs lifted Net Income by a robust 28.5 percent.  For the fiscal year as a whole, Revenue grew by 9.5 percent and Net Income rose 16.7 percent.

Despite the healthy financial performance, Tidewater's share price fell 33 percent from March 2008 to March 2009.  This divergence enabled the Value gauge for Tidewater to reach a perfect 25-point score.  (The share price has already rebounded 22.5 percent.)


We have now modeled Tidewater's Income Statement for the soon-to-be-concluded June 2009 quarter.  The intent of this exercise was to produce a baseline for identifying any deviations, positive or negative, in the actual data that the company will announce in late July.  GCFR estimates are derived from trends in the historical financial results and guidance provided by company management.


First, we set the stage with some background information about the company and the business environment in which it operates.

Tidewater (NYSE: TDW) owns the world's largest fleet of vessels serving the global offshore energy industry. 

Headquartered in New Orleans for more than 50 years, Tidewater first attended to drillers in the Gulf of Mexico.  The company still works in this region, but international operations now dwarf the domestic business.  Foreign operations were responsible for 89 percent of the company's revenue in fiscal 2009.

Tidewater is proceeding along a multi-year path to expand and modernize its fleet.  The company added 17 new vessels and disposed of 47 older vessels in fiscal 2009.  Of the 409 owned or chartered vessels at the end of the fiscal year, 142 were built in 2000 or later.  As of 31 March 2009, Tidewater is obligated to purchase 46 additional new vessels at a total cost of about $992 million.  The company expects to take delivery of 26 vessels in fiscal 2010 and the remainder by July 2012.

Despite large capital expenditures, Tidewater management was optimistic enough last year about cash flows to raise the dividend by 67 percent.  In addition, the company's board authorized $200 million of share repurchases.  However, the 10-K reports that none of $200 million has, as yet, been spent.

"The company will continue to evaluate share repurchase opportunities relative to other investment opportunities and in the context of current conditions in the credit and capital markets."

Global economic weakness has cut worldwide consumption of crude oil and natural gas and led to lower energy prices compared to mid-2008 levels.  Since expensive offshore production is now less profitable, the demand for maritime support services is also down.  At Tidewater, the reduced demand is reflected in the company's worldwide fleet utilization rate, which fell from 74.5 percent in the March 2008 quarter to 72.1 percent in the March 2009 quarter.  However, the average day rate rose from $10,900 to $12,626.  We believe the increase is mostly attributable to the greater number of modern vessels.

When demand is down, Tidewater can "stack" vessels to reduce operating costs.  The company can also move ships from slower to busier regions.

Political risks have long been a characteristic of the high-stakes international energy business, and Tidewater experienced one of these perils earlier this year.  As described in Tidewater's 10-K, Petroleos de Venezuela, S.A., which is Venezuela's national oil company,

"took [without compensation] possession of 11 of [Tidewater's] vessels that were supporting PDVSA operations in the Lake Maracaibo region of Venezuela."

This seizure was part of the Venezuelan government's actions to take over all oil operations in Lake Maracaibo.  The confiscated vessels had been responsible for about 3 percent of Tidewater's revenue.

As a result of Maracaibo events, underwriters in London decided the insurance policies they write would no longer cover war risks, including asset expropriation, in Venezuela.


We're now ready to look ahead.

Tidewater provides neither Revenue, nor Income, guidance.  However, limited cost expectations for the June quarter were discussed during the 14 May 2009 conference call with financial analysts. 

" ... consistent with guidance in January, we anticipate some reversal of the positive [operating cost] trend of the past two quarters, and a quarter-over-quarter uptick in repair and maintenance expense in the June quarter. To be clear, we do not expect to return to the R&M expense levels witnessed in first half of fiscal 2009."

[...]

"On a good-forward basis, we expect operating costs for the June quarter, that is our fiscal first quarter, to be about $160 million ....  An upward trend in operating costs associated with new vessel deliveries is also factored into this guidance."

[...]

"Our current sense that vessel-level cash operating margin for the June quarter will be in the range of 49% to 51% with a deterioration in rates and utilization only being partially offset by the positive effects of new deliveries and ongoing cost-containment initiatives."

[emphasis added}

Revenue depends on the number and types of vessels Tidewater owns, the utilization of these vessels, and the amount Tidewater can charge (typically expressed in dollars per day) for leasing them.  Maintenance, weather, moving vessels between operating locations, and new vessels entering the fleet can negatively affect the utilization rate.

In the June quarter, the number of new vessels will increase, but overall utilization rates are expected to be down slightly.  In addition, Tidewater's revenue will be negatively affected by the seizure of the 11 vessels in Venezuela.

Given these circumstances, we are assuming that Revenue in the June 2009 quarter will match the $340 million of the June 2008 quarter.  We would not be surprised if the actual figure deviates from the estimate by plus or minus 5 percent.

Management's guidance, as quoted above, for Vessel Operating Costs is $160 million.  We assume that the volatile Cost of Other Marine Revenues will be $7.5 million; the combination of these figures results in a forecast for Cost of Goods Sold of $167.5 million.  The CGS estimate is 49 percent of our $340 million Revenue estimate, equating to a Gross Margin, as we define it, of 51 percent.

The Gross Margin was only 45 percent in the June 2008 quarter.

Depreciation was between $30 million to $32 million per quarter for the last couple of years, but it inched up to $33 million with new vessels entering the fleet.  We will assume a $34 million expense (10 percent of estimated Revenue) for the June quarter. 

We will assume $36 million for SG&A expenses.  This figure is consistent with past results.

It is possible the Tidewater will record impairment charges associated with the vessels, receivables, and other assets in Venezuela.  There might also be legal charges.  However, our current model for Tidewater does not include any provisions for special charges.

If our estimates are accurate, Tidewater will attain an Operating Income, as we define it, of $103 million in the quarter.  Due mostly to a better Gross Margin, this would be a 17.6 percent increase over Operating Income in the year-earlier quarter.

For gains due to asset sales, which Tidewater classifies as an operating item, we have used the recent average of $5 million.  We are also assuming Net Interest income of $5 million.  These figures would lift pre-tax income to $113 million.

If the effective income tax rate is 17.5 percent, Net Income will be $93 million (about $1.81 per share).  This is 9.5 percent above the amount earned in the June 2008 quarter.  On a per-share basis, the increase would be 10.4 percent.  Readers are reminded that we have made no provisions for charges related to the situation in Venezuela.


Please click here to see a full-sized, normalized depiction of the projected results next to Tidewater's quarterly Income Statements for the last couple of years.  Please note that our organization of revenues, expenses, gains, and losses, which we use for all analyses, can and often does differ in material respects from company-used formats.  The standardization facilitates cross-company comparisons.







Full disclosure: Long TDW at time of writing.

COP: Look Ahead to June 2009 Quarterly Results

The GCFR Overall Gauge of ConocoPhillips (NYSE: COP) slipped from 46 to 44 of the 100 possible points in the first quarter of 2009.  Our initial and updated analysis reports explained in some detail how this score was attained.

Lower energy prices have had a crippling effect on Conoco's results.  Earnings per share fell from $2.62 in March 2008 to $0.56 in this year's first quarter.  Revenue dropped 44 percent.

With some concern, we noted that Conoco's Long-term Debt to Equity ratio had more than doubled in the 12 months ending 31 March 2009.  LTD increased 39 percent ($21.1 billion to $29.3 billion), and Shareholders' Equity nosedived 37 percent ($89.6 billion to $56.2 billion) as a byproduct of the massive asset impairment charges Conoco recorded in 2008.


We have now modeled ConocoPhillips's Income Statement for the soon-to-be-concluded June 2009 quarter.  The intent of this exercise was to produce a baseline for identifying any deviations, positive or negative, in the actual data the company will announce in late July.  GCFR estimates are derived from trends in the historical financial results and guidance provided by company management.


First, we set the stage with some background information about the company and the business environment in which it operates.

ConocoPhillips (NYSE: COP) is the seventh-largest, when ranked by market capitalization, Major Integrated Oil & Gas firm in the world.  [Exxon Mobil (NYSE: XOM) is number one by a wide margin.]   ConocoPhillips is fourth on the 2009 edition of the Fortune 500 list of the largest U.S. corporations, up from fifth in 2008.

Conoco, Inc., and Phillips Petroleum merged in August 2002.  Burlington Resources, with its extensive natural gas operations, was added in March 2006.

Energy prices (and, therefore, the revenues of energy producers) surged through the first half of 2008.  The price of crude oil exceeded $140 per barrel at its peak.  The global economy then stalled, and speculators exited the market.  A barrel of crude plunged below $40 by the end of 2008.  However, the price has spiked again this spring to about $70 per barrel.  The recent rise has been linked to fears of a weaker dollar and inflation.  (Others are skeptical the increase is justified.)

Natural gas prices also crashed last year, but they haven't had a rebound equivalent to crude's.

The low price of crude oil at the end of 2008 implied that Conoco's assets were worth less than they had been.  The company decided to reduce the carrying value of its intangible assets and investments by $35 billion, which was about 19 percent of the company's Total Assets at the time.  Asset impairment charges led to a loss of $31.8 billion (minus $21.37 per share) in the fourth quarter of 2008.

ConocoPhillips owns 20 percent of LUKOIL (OTC: LUKOY), which is responsible for more than 18 percent of Russia's oil production.  LUKOIL's shrinking market value in 2008 was responsible for $7.4 billion of the impairment charges.  Note that the LUKOIL charge was significantly greater than the widely publicized charge ConocoPhillips recorded in 2007, when troubles with the Venezuelan government resulted in a $4.5 billion charge for expropriated assets.

Berkshire Hathaway (NYSE: BRK.A), run by investing guru Warren Buffett, owned more than 71 million shares of ConocoPhillips on 31 March 2009.  Berkshire pared its holdings by about 8 million shares in the first quarter of 2009.  Buffett characterized the purchase of Conoco shares, when energy prices were soaring, as his biggest mistake in 2008.

In October 2008, Conoco and Australia's Origin Energy, Ltd., (ASX:ORG) formed a 50/50 joint venture named Australia Pacific LNG.  The new company "will focus on coalbed methane production from the Bowen and Surat basins in Queensland, Australia, and LNG processing and export sales."



We're now ready to look ahead.

At its annual meeting with financial analysts on 11 March 2009, Chairman and CEO Jim Mulva described the company's plans and objectives for 2009.  ConocoPhillips will make capital investments totaling $12.5 billion in 2009.  Capital spending was a heftier $19.1 billion in 2008; however, $4.7 billion was dedicated specifically to the Origin Energy deal.

The first quarter earnings announcement included the following limited guidance for the second quarter of 2009.

Outlook

Mr. Mulva concluded: [...]

“Looking ahead to next quarter, we expect the company’s second-quarter E&P segment production will be lower than the first quarter, primarily due to planned maintenance and seasonality. However, full-year production is expected to be slightly higher than 2008. Exploration expenses are anticipated to be approximately $325 million for the quarter.

“In our downstream refining business, we expect the worldwide refining crude oil capacity utilization rate to be in the upper-80-percent range during the second quarter and turnaround costs to be approximately $125 million before-tax for the quarter.”

[Emphasis added.]

To put the second part of the guidance in perspective, we note that Conoco's worldwide refining crude oil capacity utilization rate was 81 percent in the first quarter of 2009, 93 percent in the fourth quarter of 2008, and 89 percent in the first quarter of 2008.

Conoco's Revenue is dependent, for the most part, on how much oil and natural gas it produces and refines, the cost of production, and the prices at which various energy products are bought and sold.  The company's Refining and Marketing segment provided 68 percent of total Revenue in 2008, and the Exploration and Production segment was responsible for 29 percent.

Geopolitical and natural forces can have a significant effect on productivity and prices. 

For information on energy commodity prices and refining margins, the trading conditions data published by BP is especially helpful.  From this source, we learn:

• The average price per barrel of Brent crude oil has rebounded from $44.46 in the first quarter of this year to about $56.50 in the current quarter. 
• The benchmark price of Russian oil jumped even higher, from $19.52 to $30.87.
• U.S. natural gas prices have continued their long decline, from $4.91/mmbtu to $3.51.
• BP's Refining Global Indicator Margin has also declined, from 6.2 to 5.3.

Rising oil prices and more efficient refineries, relative to the first quarter, will tend to increase Conoco's Revenue in the second quarter.  However, lower production and lower gas prices will have the opposite effect.  We're not sure how much to weight each of these factors, but our cursory investigation suggests that the crude oil price as the most dominant factor in determining the Revenue.

Therefore, we believe the positive effect of the higher oil prices on Revenue will prove more significant than the downward pressure caused by the lower gas prices.  We also suspect that the benefits of the significantly higher refinery utilization rate will outweigh the expected (small) drop in oil production.

Under these circumstances, we estimate that second quarter Revenue will be 15 percent greater than the first quarter's $30.7 billion.  Therefore, our target is $35.4 billion.

ConocoPhillips' Gross Margin in the first quarter was 27.4 percent, which is 1 to 2 percent higher than it had been recently.  We will set our target for the Gross Margin at 26 percent because we are concerned about the effect of the refining margin.  In other words, we're estimating that the Cost of Goods Sold [i.e., purchased crude oil, natural gas and products + Production and operating expenses] will be (1 - 0.26) * $35.4 billion or $26.2 billion.

Based on historic data, it seems reasonable to expect a Depreciation expense of $2.3 billion.  Similarly, we'll estimate SG&A expenses (mostly non-income taxes) at 12 percent of Revenue, or $4.2 billion.  We will then add $325 million for Exploration expense per company guidance and $200 million for non-recurring operating charges.

These figures would result in an Operating Income of $2.1 billion, down 74 percent from the June 2008 quarter when energy prices were sky-high.

We then need to consider non-operating income and expenses, such as equity in the earnings of affiliates and interest.  Considering past results, we will set our expectation for net non-operating income at $300 million.  This pushes our estimate of pre-tax income to $2.4 billion.

ConocoPhillips' effective income tax rate is quite variable from quarter to quarter.  A rate of 44 percent would lead to provision for income taxes of $1.1 billion.  This should be close if there aren't too many special tax matters in the quarter.

After subtracting $20 million for Minority Interests, our estimate for Net Income becomes $1.3 billion ($0.89 per share).   In the year-earlier quarter, earnings were $5.4 billion ($3.50 per share).


Please click here to see a full-sized, normalized depiction of the projected results next to ConocoPhillips's quarterly Income Statements for the last couple of years.  Please note that our organization of revenues, expenses, gains, and losses, which we use for all analyses, can and often does differ in material respects from company-used formats.  The standardization facilitates cross-company comparisons.





Notes:

1. The source for the historical charts of crude oil and natural gas futures is Tradingcharts.com. 
2. The Lukoil ADR price chart is from Yahoo! Finance. 
3. The US EIA and BP's trading conditions were sources of energy price data.

Full disclosure:  Long COP at time of writing