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ConocoPhillips (COP - Analyst Report) reported third quarter 2012 adjusted earnings of $1.44 per share, surpassing the Zacks Consensus Estimate of $1.19. The reported figure was also up by almost 2.9% from the year-earlier profit of $1.40, reflecting higher-than-expected production of crude oil from its high-margin areas like the Eagle Ford and Bakken.

However, including items related to asset sales and taxes, the company’s earnings per share fell 23.6% year over year during its three-month period ending September 30, marking its full quarter as a standalone oil and gas producer after spinning off its refining and marketing operation, Phillips 66 (PSX - Snapshot Report). The downtrend was mainly due to lower revenue and production.

Revenues in the reported quarter decreased to $15,089.0 million from the year-ago level of $16,695.0 million. However, the reported figure comfortably surpassed our projection of $11,115.0 million.

Exploration and Production

Daily production averaged 1.525 million barrels of oil equivalent (MMBOE), down from 1.538 MMBOE in the year-ago quarter. The decline was mainly due to the impact of divestitures. In addition, natural decline in fields also contributed to the weak production that was partly mitigated by production from key projects and higher production in China and Libya.

Average realized price for oil was $102.72 per barrel, compared with $106.61 in the year-earlier quarter. The price for natural gas was $4.56 per thousand cubic feet (Mcf) versus $5.45 realized in third quarter 2011, reflecting a decrease of 16%. Natural gas liquids (NGL) were sold at $40.39 per barrel, a decrease of 27% from the year-ago level of $55.61 per barrel.

Financials

As of September 30, 2012, ConocoPhillips generated $3.9 billion in cash from continuing operating activities (excluding working capital). At quarter end, the company had total cash of $1.3 billion and $21.1 billion in debt, with a debt-to-capitalization ratio of 31%.

ConocoPhillips also paid $800 million in dividends and incurred $3.7 billion in capital expenditures during the third quarter.

Asset Sale Program

The company has generated $2.1 billion in proceeds from asset sales for the first nine months of 2012, and expects to wrap up its $8-$10 billion disposition program by the end of 2013.

Guidance

For the fourth quarter, production is expected to boost sequentially on account of completion of turnaround activity and ongoing ramp-up in major North American programs, mainly in the Eagle Ford and oil sands.

ConocoPhillips expects its full-year 2012 production guidance in the range of 1.570-1.580 MMBOE/d. The company also remains on track to deliver average annual production as well as margin growth of 3% to 5%, as it focuses on liquid-rich ventures primarily in the U.S. and Canada.

Our Take

With leading positions in both natural gas and heavy crude oil in North America, as well as a legacy position in the North Sea and growing exposure to lucrative international regions, ConocoPhillips expects to replace reserves and sustain production growth over the long term. ConocoPhillips’ exploration initiatives toward liquids-rich plays are gaining momentum through the Eagle Ford, Bakken and North Barnett shale plays.

Again, post-split, the two separate companies would stand to gain as the two entities will be able to pursue greater opportunities in their respective market segments without the constraints of the parent company. It will also better serve the needs of both investor groups. We expect this move will allow ConocoPhillips to narrow the returns gap, which has historically lagged its peers.

However, we remain cautious about the company’s weak production volume. Again, ConocoPhillips remains vulnerable to unstable movements in crude oil and natural gas prices, as well as the volatile nature of the macro backdrop. We believe that any downtrend in the global economy will affect the supply-demand fundamentals of oil and gas, hurting the sales prices for crude oil and natural gas.

We have a Zacks #3 Rank (short-term Hold rating) for the third biggest U.S. integrated oil company – ConocoPhillips – following ExxonMobil Corporation (XOM - Analyst Report) and Chevron Corporation (CVX - Analyst Report).

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