ConocoPhillips (COP) Outlook Reviews to Negative by S&P

Standard & Poor's Ratings Services revised the rating outlook on ConocoPhillips (NYSE: COP) and its related entities to negative from stable. At the same time, we affirmed the ratings on the companies, including the 'A' long-term corporate credit rating and 'A-1' short-term corporate credit rating, as well as the 'A' issue-level rating on the companies' senior unsecured debt and its 'A-1' commercial paper rating.

"As an oil and gas exploration and production (E&P) company, ConocoPhillips is directly affected by the recent precipitous decline in crude oil prices," said Standard & Poor's credit analyst Paul Harvey. "Our ratings on ConocoPhillips and entities take into account the currently weak oil and North American natural gas prices, which we expect will result in persisting negative discretionary cash flow during 2015-2016, even with planned capital spending significantly reduced from recent levels," said Mr. Harvey.

Like other large E&P companies and its peers among major integrated producers, ConocoPhillips does not hedge its commodity price risk to any material extent. And with its sizeable international operations, ConocoPhillips is particularly exposed to Brent crude prices ($80 million to $90 million change to annualized net income for each $1 per barrel change in price), which have declined to a greater extent than Western Texas Intermediate (WTI) crude prices (where ConocoPhillips' net income sensitivity is about $35 million to $40 million for each $1 per barrel change). Having invested heavily in certain major development projects in recent years, ConocoPhillips has considerable discretion to reduce its spending over the next two to three years, without precluding some growth in its production. Indeed, the company recently indicated that it expects capital spending in 2015 to total $13.5 billion, down about 20% from the 2014 level and compared with a long-range run-rate of about $16 billion per year, while still growing production by about 3% year over year, on a normalized basis.

We believe that if prices remain weak over the next three years, ConocoPhillips could sustain this level of spending, or even cut investment further, without suffering an absolute decline in production. However, the company seems committed to maintaining its sizeable common dividend, which consumes about $3.7 billion per year at the recent payout level. As such, we would expect ConocoPhillips to generate negative discretionary cash flow aggregating about $6.5 billion to $7.5 billion over the next two years (compared with about $5 billion to $6 billion during 2013-2014), causing net debt to increase and cash flow/leverage measures to weaken, absent offsetting actions.

We continue to assess ConocoPhillips' business risk profile as "excellent," based on the company's large proven reserve base, broad geographic diversity, and balanced product mix. ConocoPhillips is the largest independent E&P company based on production and reserves.

We would consider a downgrade if we came to expect that ConocoPhillips' cash flow and leverage measures would deteriorate to a greater extent than we are now assuming, with FFO/total debt below the upper 30% range, and debt/EBITDA above 2x.

We could revise the outlook to stable if financial performance proves more resilient than we now expect, with, for example, FFO/total being sustained at greater than 45%. Our rating on ConocoPhillips is the highest rating on any independent E&P company, thus, we currently view an upgrade as highly unlikely, particularly in view of our expectation that crude oil prices will remain at depressed levels compared to recent peaks.

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