Oil Search Limited profit craters, what should shareholders do?


What: Oil and gas producer Oil Search Limited (ASX: OSH) has reported an interim set of profit results which follow the weak trend set by peers Santos Ltd (ASX: STO) and Origin Energy Ltd (ASX: ORG).

So What: For the six months ending June 30 2016, Oil Search managed to increase production by 4% to 14.9 million barrels of oil equivalent (mmboe).

These higher volumes failed however to offset the lower prices which Oil Search received for its commodities. The average realised oil and condensate price declined by 27% half on half; meanwhile the average realised gas and LNG price declined 40% half on half.

The combined effect of these two factors was a fall in group revenue of 33% to US$581 million and a huge 89% slump in net profit after tax to just US$25.6 million from US$227.5 million a year earlier.

The profit slump highlights the significant operating leverage inherent in most energy production businesses and the degree of variability in profits at different points across an oil cycle.

Now What: Shareholders in Oil Search are set to receive a dramatically reduced interim dividend of just US 1 cent per share (cps), down from US 6 cps in the prior corresponding period.

While the reduced dividend will naturally be unwelcome, at this point in the cycle it is understandable.

While the fall in profitability and dividends could lead some shareholders to pull the “sell trigger”, arguably investors would be better off focusing on estimating the through-the-cycle cash flows which Oil Search should earn.

According to analyst consensus data supplied by Reuters, six analysts have a buy/outperform recommendation on the stock; three analysts have a hold recommendation; while one analyst has a sell recommendation.

Consensus earnings estimates are also forecasting a 100% plus rise in profitability over the 12 months from December 2016 to December 2017, suggesting better times could lie ahead for patient shareholders.

If you are interested in owning quality dividend shares which aren't slashing their dividend like Oil Search is, then I would recommend this top dividend share instead. A strong yield and potential share price gains make this a great investment idea in my opinion.

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Motley Fool contributor Tim McArthur owns shares in Origin Energy Ltd. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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