Not Yet Beyond Petroleum

Cecil is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Almost everything in the world is powered by fossil fuels, with only a small percentage of plants, offices, and homes being powered by alternate energy sources. This must mean that energy companies are doing extremely well. That isn’t necessarily the case, if you look at a few companies in the sector. 

BP (NYSE: BP) is one company that’s been in the news for all the wrong reasons over the past year or so. The Gulf of Mexico spill led to a major PR disaster. Before that, shares of the company were trading at around $60, but afterwards the share price dropped to $30. The price rose eventually, and currently trades around $40.

The fact of the matter is that investors expected the company to take a large financial hit in the aftermath of the spill. The trial court in New Orleans is expected to make a decision in favor of the victims of the oil spill very soon. The amount expected to be paid out as a settlement to the victims is estimated to be around $7 billion, which, even though it's a fairly large amount, is an amount that BP expected to pay and made provisions for. So now that the storm clouds are being blown away, what is BP expected to do in the future?

BP produced 10% less oil and natural gas in 2011, but made higher margins on those products; as a result, full year profits for the company rose by 5.8%. BP saw profits increase 40% during the third quarter of 2012 from the previous quarter. The company is fairly well diversified and didn’t take too much of a hit like its competitors did from low natural gas prices. The company’s new projects in Angola and the North Sea are expected to make double the amount per barrel in the future. BP is also planning on bringing 15 new major upstream projects into production by the end of 2014. These projects will no doubt increase production, but the thing to note is the fact that 11 of these 15 are in high-margin zones, which means that the company’s margins are also increasing.

As long as the price of oil remains around $100 per barrel, BP reckons its cash flow will grow by more than 50% to $33 billion by 2014. This should result in plenty of surplus cash to pay higher dividends to shareholders. A drop of 10% in the price of oil, as some analysts expect, will reduce cash flow, but not so much so that its investment spending becomes a problem. 

What About the Competition? 

ExxonMobil (NYSE: XOM) is another company that seems to be doing fairly well. The company posted better than expected results for the third quarter in the beginning of November. Revenue fell 7.7% to $115.71 billion which was still above estimates of $115.08 billion. Net income fell 7.4% to $9.57 billion, or $2.09 per share, ahead of expectations of $1.96 per share. Exxon Canada bought out Celtic Exploration, thereby establishing itself in the Canadian oil and shale game. The area taken over is expected to have 76% natural gas and 24% crude oil. Earnings for the company seems to have been increasing quarter by quarter, after almost every energy company in the world took a hit in 2009. Earnings estimates for the fourth quarter are coming in at an average of $2.02 per share, with revenue estimated at $120.32 billion.

The key factor for the company could be the North American market, where natural gas is expected to compete with coal pretty soon. Developing countries such as India and China are more or less the target market for fossil fuel-based energy, but developed nations are looking at greener alternatives, with natural gas being one of them. Therefore, Exxon’s acquisition of a major chunk of Canadian natural gas shouldn’t come to many as much of a surprise.

Chevron (NYSE: CVX) is a company that dividend investors will be quite aware of. The company pays a fairly attractive dividend of $3.60 on an annual basis and has a good history of paying dividends. The company has been increasing dividends fairly consistently as well. At the moment, Chevron has a 25% payout ratio based on its earnings. Healthy free cash flows indicate that the firm should not have any trouble maintaining their current dividend.

The company has excellent margins, and its funds from operations at the end of 2011 stood at $39.8 billion. That’s a fairly large amount! The cash flows from operations also looked a lot better in 2011 than they did in 2009. Another impressive factor in favor of the company is the fact that it can sustain its capital expenditures through funds that are internally generated. This results in a fairly low debt ratio when compared to its peers, which in turn means lower interest payments for the company. 

If you look at the energy sector as a whole, its fairly volatile in the sense that it depends a lot on energy prices. The other issue is that demand from Europe is expected to decline further thanks to the economic crisis over there. But in spite of all this, the fact is that there are quite a few opportunities in the sector. Especially if you look at BP, the company has a lot of scope to up its stock price. The Deepwater Horizon disaster brought the share price down significantly, and now that the aftermath is almost done and dusted, it could go back to its old levels fairly soon. Now may be a good time to pick up some shares for a great value.

ceciljohn2002 has no positions in the stocks mentioned above. The Motley Fool owns shares of ExxonMobil. Motley Fool newsletter services recommend Chevron. 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.If you have questions about this post or the Fool’s blog network, click here for information.

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