The Origin Energy Ltd (ASX: ORG) share price has come under pressure on Friday morning.
At the time of writing, the energy company's shares are down 5.5% to $4.44.
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Why is the Origin share price sinking?
Investors have been selling Origin's shares today following the release of an update on its guidance for FY 2021.
As you might have guessed from the Origin share price reaction, the company isn't performing as well as it expected.
According to the release, the company has downgraded its earnings guidance due to an adverse and unexpected outcome on a domestic gas contract price review and continued headwinds in energy markets' operating conditions.
In respect to the price review, Origin has been engaged in a price review for gas purchased from the Otway Basin fields owned by Beach Energy Ltd (ASX: BPT).
This dispute was referred to arbitration, but Origin didn't receive a favourable decision as it expected. As a result, the new gas price is likely to be materially above Origin's expectations and recent comparable wholesale contracts.
The release explains that the outcome is expected to result in an increase in Origin's cost of supply of $30 million to $40 million for FY 2021, before increasing to $60 million to $80 million in FY 2022.
Origin will now assess the timing and extent to which this increased cost of supply can be mitigated.
Origin CEO, Frank Calabria said, "We are disappointed in this decision which we believe is wrong, and entirely inconsistent with our prior experience in the gas market. This will result in a gas price that does not reflect market prices, and it is therefore a very poor outcome."
What will the earnings impact be?
Combined with tough operating conditions, energy markets operating earnings is now expected to be in the range of $940 million to $1,020 million.
This is down from its previous guidance of $1,000 million to $1,140 million. It will also be a 30% to 35.5% decline year on year from $1,459 million in FY 2020.
One positive, though, is that some of the weakness in the energy markets division will be offset by the continued strong performance and upgraded guidance for Australia Pacific LNG.
Origin expects the cash distribution from Australia Pacific LNG to be greater than $650 million, driven by continued strong production and capital and operating cost discipline. This has resulted in a lower distribution breakeven of US$22-25/boe.
FY 2022 outlook
Management has warned that FY 2022 will be a tough year as well.
It explained: "As previously foreshadowed, challenging operating conditions in Energy Markets are expected to persist in FY2022. Electricity gross profit is expected to be lower, primarily due to a ~$20/MWh reduction in forward electricity prices compared to a relatively fixed cost supply on ~16 TWh."
"Natural Gas gross profit is expected to decline, due to higher procurement costs as a result of price reviews and increases in the JKM index, as well as lower volumes and prices on commercial and industrial sales reflecting current subdued domestic market conditions."
In light of this, Origin is continuing to target significant capital and operating cost savings and mitigating actions. This includes the roll out of the new retail operating model and Kraken platform over FY2022-2024.
Following today's decline, the Origin share price is now down 11% over the last 12 months. This compares to a 30% gain by the ASX 200 index.
