Best of Breed in the Oil, Gas & Consumable Fuels Industry
Hunter is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The Oil, Gas & Consumable Fuels industry is largely in charge of pulling oil out of the ground and getting it to your gas tank. Recent volatility in energy prices has investors cautious of companies in this space, creating significant discounts..
Industries in the sector
The Oil & Gas industry is not high on my scale, but that doesn’t mean we can’t find ‘best of breed’ value in this space. I look for attractive industries in the energy sector by comparing overall margins, growth in sales, and most importantly the ability to generate free cash flow. Oil & Gas doesn't have the sales growth overall that its sister industry Energy Equipment & Services has, 17% in 2012.
Below are the top 20 firms in the industry listed by market capitalization, along with some key metrics for each. Based on these metrics, and a variety of others, I believe I have identified four companies poised to outperform in the long run.
Best of breed: Occidental Petroleum
Occidental Petroleum (NYSE: OXY) stands head and shoulders above its peers. The company has been able to achieve a gross margin significantly above the industry average, a very important metric in this business. Five-year average gross margin for the company is greater than 65%, a sign of long-standing superiority. In fact, gross margin is one of the most important factors for long term outperformance against industry peers.
The company has also invested more than $20 billion back into the business in the last three years, a sign of commitment to long-term growth. There is $1.5 billion remaining in the share repurchase program, representing a 2.2% increase in earnings per share once the program is complete. Add to that the 12.8% increase in sales volume and the 0.6% increase in domestic prices and we can make an excellent case for double digit growth going forward.
Runner up: Phillips 66
With a price to earnings ratio less than 8, Phillips 66 (NYSE: PSX) is the true definition of a value stock with the lowest earnings multiple of these four companies. It takes more than a low P/E to pass the value selection process. The company is paying a large dividend back to shareholders as well as increasing efficiencies in the cost structure.
Phillips focuses its business on the downstream aspect of the oil process. Downstream refiners such as Phillips 66 are under pressure right now. The difference between what the company buys raw oil at and what it can sell the refined products for is at a historical low right now (known as the crack spread).
What makes Phillips 66 special is that it can operate this well, even in this environment. Direct competitors in this space, Marathon Petroleum and Valero Energy, are not projected to increase sales at all next year, making predictions for Phillips 66 growth of 2.1% that much more impressive. The future could look very bright if and when the crack spread returns to normalized levels.
Honorable mention: Exxon Mobil
It’s not often that such a behemoth of a corporation can impress me this much. If there’s one thing that Exxon Mobil (NYSE: XOM) does well, it’s execution.
Return on assets is an extremely important metric. It displays what a company can do with what it has. We all know Exxon has significant assets, but it isn’t wasting them. The company leverages its resources to build a profit generating machine, year after year.
Exxon Mobil earned its spot due to its global footprint. The energy revolution that is occurring around the world right now will be the catalyst to drive Exxon’s profits for the next decade. Exxon has the ability to explore, drill, and transport as needed from segment to segment. This is the reason we call Exxon 'major integrated oil.' The integration, and the ability to own all channels of the energy delivery process, is the company’s edge, and its return on assets is industry-trumping.
The focus for a long-term shareholder of Exxon should be based on what the company returns. There are three pieces here: dividends, share repurchases (which increases earnings per share), and increase in share price. The company can control the first two, which totaled $80 billion in the last three years, over 20% of the company. Going forward, Exxon will continue to repurchase $20 billion per year, but what is really unique is that the company reserves those shares in case it needs to make a strategic acquisition. This is why it has a reputation for skilled management.
Right up there: Canadian Natural Resources
If there’s one name on this ‘best of breed’ list you haven’t heard of its Canadian Natural Resources (NYSE: CNQ). The company makes the list due to geographic reasons. The Western Canada location (among others globally) is a hotbed of oil exploration.
Well, the story is as old as time, so what makes Canadian Natural attractive now, and for the long term? The Keystone Pipeline, whenever it ultimately happens, and it will, will increase the ability of the company to deliver its product to the Gulf Coast refiners. Once the preferred transport method shifts from expensive rail and back to primarily pipeline, we will see Canadian Natural competing on price with the Midwest-based and Texas-based drillers.
Even in this difficult transportation environment from Canada, the company has remained one of few companies in its peer group to post positive sales growth. Wall Street recognizes top-line growth as a pure indicator of a successful business, and it will reward Canadian Natural for years to come.
The Oil, Gas & Consumables market is surrounded by fear and uncertainly due to volatility in commodities prices right now. Smart investors who are in for the long haul will see this opportunity to find the best of breed in the industry.
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