BP plc (ADR) Earnings Hide a Critical Element Investors Need to Know

Source: BP Media website.

In the least shocking news you will hear today, BP's earnings this quarter were quite a ways off of last year's numbers thanks to the steep slide in oil and gas prices recently.

Of all the things the company announced at this quarters earnings, there was one small byline many may not notice, but it was possibly one of the most important things about this quarter's results.

Let's take a look at the results and see how this one small detail makes these less-than-stellar numbers look much better by comparison.

By the numbersHere's a quick rundown of BP's financial results for the past quarter:

Source: BP investor presentation.

The shortest way to describe BP's earnings is this: not great. Then again, it's really hard to do much better when not only have oil prices fallen as low as they have, but natural gas prices have fallen almost as much. Over the past year, the average price for a unit of gas BP sold was 40% less than what it was a year ago, and those prices hit BP particularly hard since a large portion of BP's production in the Continental United States is natural gas. This, combined with a $375 million rig cancellation fee for rigs in the Gulf of Mexico, resulted in its U.S. operations posting a $545 million loss.

The one saving grace in the decline in oil prices is that it has done wonders for the company's refining and chemicals manufacturing segment. Downstream earnings for the quarter were more than double what they were this time last year thanks to not just improved pricing, but also a larger effort by the company to update its refining and chemicals segments to focus on a smaller portfolio of highly profitable assets.

The slightly misleading part of BP's resultsWhen looking at Big Oil companies -- or just about anyone in the energy space for that mater -- cash is king. With hundreds of millions of dollars going out the door on a daily basis to maintain and grow production, it is critical the company maintain a steady flow of cash that exceeds its capital expenditures and pays the company's shareholder efforts, such as dividends and share repurchases.

At first glance, this quarter's cash flow numbers should really set off some alarm bells. Not only did the company's cash flow from operations decline by 76% from this time last year, but the cash generated didn't even come close to meeting all of its spending obligations for the quarter.

Source: BP investor presentation.

Before you go dashing for the exits, thinking today's oil and gas price environment will lead to a cash crunch on the magnitude this figure shows, you need to know one word: contango. This fancy word used in futures markets means the price for a commodity such as oil is greater in the future than what it is today.

A company like BP can take advantage of this market condition by signing a futures contract to sell oil in the future, and hold some of its current production in storage until that contract comes due. It appears BP is doing just that.

This quarter, the company's working capital -- which includes inventory -- rose by $2.5 billion. When working capital increases, cash generated from operations decreases. While all of that working capital increase may not be attributed to stocks of oil being held for sale at a later date, chances are a good portion of it is, and it did a pretty good number on cash generated for the quarter.

What a Fool believesAs anyone should reasonably expect given the environment for oil and gas companies right now, BP saw a pretty significant decline in the things that matter: earnings and cash flow. However, the numbers posted by BP aren't as bad as they seemed because the company is making some moves to get the most out of its oil production. With more than $32 billion in cash and short-term investments on hand, there is no big fear today that BP is going to face a cash crunch, and the company's size gives it the financial freedom to make these sorts of moves.

Things are actually looking pretty good for BP, all things considered, and the oil giant is well positioned to come out of this oil price lull a stronger company.

The article BP plc (ADR) Earnings Hide a Critical Element Investors Need to Know originally appeared on Fool.com.

Tyler Crowe has no position in any stocks mentioned.You can follow him at Fool.com under the handle TMFDirtyBird, onGoogle +,or on Twitter,@TylerCroweFool. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. 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.