Why Chevron (CVX) Is Not Yet a "Buy" Despite Fundamental Strength

The year 2020 turned out to be an especially rough one for the Oil/Energy market, with the coronavirus pandemic destroying demand amid a huge glut in supplies. However, Chevron CVX, which briefly overtook its fierce rival ExxonMobil XOM to become America’s largest oil company, fared better than the broader sector by focusing on cost reductions, dividend safety and opportunistic acquisitions.

Before we discuss why Chevron may not have much upside in the near term, Here's a sneak peek into the company's performance over the past year:

Chevron Outperformed Exxon, Shell & BP

After falling to a 52-week low of $51.60 in March, shares of Chevron have rebounded to more than $85 per share and clearly outperformed the sector. But despite rising handsomely over the past three months, Chevron shares are down 28.8% in the year-to-date period. Meanwhile, ExxonMobil has dropped 40.1%, while Europe’s largest oil company Royal Dutch Shell RDS.A has dipped 39%. Another supermajor, London-based BP plc BP, has lost roughly 43.7% of its value so far this year.

 

 

Acquired Noble Energy for a Combination of Permian & Israeli Assets

Taking advantage of the commodity price collapse, Chevron acquired Noble Energy for a bargain price of $5 billion. The addition of Noble Energy's assets has expanded Chevron’s presence in the DJ Basin of Colorado and the Permian Basin across West Texas and New Mexico. The takeover is also estimated to generate potential cost savings of $300 million within a year of the deal's closing, which happened in October. The company now has access to Noble Energy’s low-cost, proven reserves along with cash-generating offshore assets in Israel – particularly the flagship Leviathan natural gas project – thereby boosting its footing in the Mediterranean.

Curtailed Spending Plans, Suspended Share Repurchases

Looking to ride out the challenging environment, Chevron was forced to suspend its $5-billion share buyback program and cut capital spending. The San Ramon, CA-based company now expects to spend $14 billion for the year, compared to its previously lowered estimate of $16 billion and 30% less than its initial projection. The only energy representative in the 30-stock Dow Jones industrial average is also targeting $1 billion in operating cost cuts. Clamping down on outlays, the company managed to lower its quarterly operating expenses more than 21% since 2019-end.

Focused on Protecting its Dividend

Coming to the dividend, it remains an integral part of Chevron’s plans. In contrast to European majors Royal Dutch Shell and BP, both of whom lowered their dividends, Chevron (like ExxonMobil) has trimmed cost elsewhere to preserve its current quarterly payout of $1.29 per share. The stock is currently trading at $85.69 and yields 6%.Throughout the year, the dividend aristocrat — with 33 consecutive years of annual increases— has reiterated its commitment to the payout on a number of occasions.

Why Chevron is Still Not a Good Bet

While Chevron seems to check all the boxes for a great investment, it’s still not a good buy.

For one thing, the company has seen its debt-to-equity go up from 18.6% at the start of 2020 to 26.4% as of Sep 30. During this period, Chevron was forced to increase its long-term debt load by nearly 45% to $34.3 billion to fund its dividend in the face of plunging oil prices. Nevertheless, the supermajor’s gearing (or the ratio of net debt to total capital) of 16.8% is still very manageable indeed.

Chevron’s full-year 2020 income is expected to be negative, pointing to the brutal operating environment and its effects on the company’s bottom line. The price slump has greatly impacted the results of the company’s upstream unit for obvious reasons but even the downstream segment numbers have been dragged down by lower petroleum products demand. What’s more, revenues are unlikely to return to the pre-COVID levels anytime soon.

Last but not the least, despite shareholder pressure, Chevron seems to have no credible long-term emission reduction targets like its European counterparts. The company’s poor reserve replacement ratio of 44%, which reduces future volume growth prospect, is a concern as well.

The Bottom Line

Like all energy-related firms, Chevron has struggled with depressed demand stemming from the coronavirus pandemic. But it is a good, well-diversified company with a strong balance sheet and has weathered the period of very low oil prices quite well. However, a more realistic evaluation of Chevron shows that the timing is still not right for investors who may think of hitting the buy button. Hence, it would be prudent to wait for a better entry point. Chevron currently carries a Zacks Rank #3 (Hold).

You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

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Exxon Mobil Corporation (XOM) : Free Stock Analysis Report
 
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