It has been a busy week of quarterly updates from the resources sector and today is no exception. This morning it has been the turn of oil and gas giant Santos Ltd (ASX: STO) to release its third quarter update to the market.
During the quarter ending September 30 2016 Santos sold 21.3 million barrels of oil equivalent, up 9% on the previous quarter and an impressive 31% on the third quarter of FY 2015.
Although the average realised oil price has fallen 6% year on year to US$48.43 per barrel, the jump in sales volume led to sales revenue increasing 11% in the quarter to US$650 million. Year-to-date sales revenue is down ever so slightly to US$1,841 million.
But pleasingly capital expenditure has continued to fall. In the third quarter capital expenditure dropped 38% to $155 million. This means that so far in FY 2016 Santos' capital expenditure is down a massive 53% to US$438 million, helping to offset the lower oil prices.
Although oil prices have been looking a lot more favourable in recent weeks, Santos isn't taking them for granted.
In order to maximise operating cash flow and mitigate risk in volatile oil markets, management has decided to establish an oil price hedging policy. The main aim of the policy is to reduce the effect of commodity price volatility and support annual capital expenditure plans.
Currently it has hedged 7.3 million barrels of oil in calendar year 2017 through the use of a zero-cost three-way collar structure. The structure has been designed in such a way that Santos is given downside protection on low oil prices, whilst maintaining reasonable upside participation.
Santos managing director and CEO Kevin Gallagher had this to say on the quarter:
"We are taking the right steps to ensure Santos becomes a strong and sustainable business, and that mindset guides our decision making as we continue to reduce costs and maintain a strong capital discipline. Furthermore, our decision to commence oil price hedging reflects our desire to reduce the effect of commodity price volatility."
In my opinion this was a reasonably good quarter from Santos and it is pleasing to see management taking the company in the right direction. But I wouldn't invest at this point in time as I'm quite bearish on oil prices.
Whilst the company's hedging policy will protect it against volatility to a certain degree, it won't offer it any protection against sustained low prices.
If you're bullish on oil prices then Santos could be a reasonably good investment. Although I would probably recommend Woodside Petroleum Limited (ASX: WPL) and Oil Search Limited (ASX: OSH) ahead of it.
