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Linn Energy Earnings Fail to Allay Investor Concerns

Stocks in this article: LINE BRY LNCO

NEW YORK ( TheStreet) -- Linn Energy's (LINE) second quarter earnings beat most Wall Street estimates, however, the embattled oil and gas driller's results won't dispel concerns raised by skeptics about the company's accounting practices and the sustainability of its high dividend payout.

Linn Energy reported better than expected second-quarter earnings of $1.47 a share, driven by rising energy production and revenues versus this time a year-ago. Still, the company was unable to meet its own projections of what it calls distributable cash flows (DCF), or the earnings the company makes available to shareholders. For the third consecutive quarter, Linn Energy paid out more DCF to shareholders than the company was able to earn.

Linn reported DFC of 65 cents a share, missing the company's previous guidance of 72 cents. In total, the company paid out over $18 million in dividends beyond the amount of DCF it earned. Linn Energy funds DCF shortfalls using borrowings under its existing credit facilities.

Linn also said it had increased its credit facilities to $4 billion from $3 billion, increasing its total lenders to forty-one.

"LINN has experienced a challenging start to the year as lower than expected returns from our capital program coupled with historically low NGL prices have weighed on year-to-date results," Linn Energy CEO Mark E. Ellis said in a press release.

"While these and other challenges have made for a disappointing first half of 2013, we are optimistic about the remainder of the year and expect to deliver annual production growth of approximately 8% - 10%, as July volumes averaged approximately 815 MMcfe/d."

Linn and Ellis were also unable sooth investors' concern that the company could see its proposed merger with Berry Petroleum (BRY) fall through. The merger is expected to help Linn boost its energy production and dividends, however, Linn has been unable to file a proxy statement for the merger.

In July, Linn disclosed that the Securities and Exchange Commission was conducting an informal review of its accounting practices and documents related to the proposed merger. "Although the impact of the ongoing SEC inquiry on the timing of LinnCo's proposed merger with Berry is difficult to predict, LinnCo and LINN remain committed to the completion of the transaction," the company said on Thursday.

Linn, however, said it would maintain its monthly cash distribution of $0.2416 per share. The dividend equates to an annual per-share distribution of $2.90.

The Houston-based oil company's accounting practices and the non-GAAP metrics that drives its dividend have come under scrutiny in recent months from Barron's and independent research firm Hedgeye Risk Management.

Both Barron's and Hedgeye argue Linn has used non-GAAP accounting to overstate the cash flow it can pay out to shareholders and under-report expenses tied to its hedging practices and capital expenditure.

Linn Energy has been criticized for capitalizing and not expensing the costs of put contracts it uses to hedge its oil and gas production. Since the derivative contracts are capitalized, they are not included in Linn's reconciliations from non-GAAP earnings before interest, taxes depreciation and amortization (Ebitda) such as DCF.

A handful of analysts downgraded their ratings and price targets for Linn Energy in early July, however, few expressed concern over the company's long-term earnings or its accounting practices. Recently, analysts at Bank of America and Goldman Sachs expressed confidence in Linn's accounting and its ability to sustain high dividend payouts.

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