Not All Value Energy Investments Are Created Equal

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

Some big names in the oil and gas business have seen stock valuations fall over the past five years.  Do these companies represent long term value plays or just bad investments?  Three firms are reviewed here with my personal thoughts on which are worth buying or avoiding.

Rhinestone or diamond in the rough?
Back in 2012, Devon Energy (NYSE: DVN) divested its Gulf of Mexico and foreign assets to concentrate on its onshore North American oil and natural gas exploration and production business.  Smart move given how those commodities have grown.  While Devon’s oil and natural gas production have grown, its stock price hasn’t.  After peaking in 2011, Devon now trades near its five year lows.  Given its oil sands and shale gas assets, Devon currently sells for about half its net asset value.  Throw in $7.5 billion in cash and Devon looks well positioned to grow.  On the other hand, Devon plugged its third oil exploration well in Utica shale due to disappointing results.  Its Houston headquarters announced layoffs as part of its consolidation plans.  On top of it all, oil production has experienced take-away problems endemic to the oil sands industry and natural gas prices remain under pressure.

There are those who see Devon as a long term value investment.  I’m sorry, but when a company trades near its 5 year lows, sells at a PE ratio around 32, pays a modest 1.5% dividend, experiences major transportation problems with its most high margin business (e.g. oil) and price pressure for its highest volume product (e.g. natural gas), that company just does not scream “BUY” in my little world.  Yes, having $7.5 billion in cash helps, but for me it’s not enough.  While some believe Devon is a “buy and forget” investment that will grow for the next two years, I think you should forget Devon for two years before buying it.

Marathon for the long run
Like Devon, Marathon Oil (NYSE: MRO) engages in both oil and natural gas production.  Unlike Devon, Marathon’s oil comes from shale.  In fact, Marathon recently sold oil sands assets.  This affords Marathon the advantage of oil assets closer to refineries and avoiding some of the transportation problems of Canadian oil.  And it gets better.  Marathon owns $2.6 trillion in natural gas reserves.  Its investment in Eagle Ford shale oil is paying off big with more to come.  Despite lost production in Libya, earnings grew last quarter.  And its international assets round out the proven reserves picture.

Given the streamlining of assets towards high quality oil plays, the future looks good for Marathon.  Recent declines in revenue seem to be reversing and the stock is slowly coming off its recent lows. Currently, Marathon stock trades for roughly $21/barrel of proven reserves.  The fact that Marathon is producing, rather than exploring, further enhances its appeal.  Throw in a PE ratio of about 17 and a dividend of around 2%, and I think Marathon is a better investment than Devon.

But best of all...
Frankly, by most metrics, ConocoPhillips (NYSE: COP) make the most compelling value play of the three companies here.  The stock trades at $19/barrel of proven reserves and a PE ratio of under 7.  Roughly 75-80% of Conoco’s cash flow goes into replacing depleted assets and the remainder to stock buy-backs and dividends.  Its natural gas operations overseas command higher prices than US gas.  The company pays a 4.4% dividend with a dividend growth rate of 10% or so over the past five years (the past year, dividends grew at about 2.6%).  

The past year has seen significant declines in revenues and earnings.  Much of this fiscal turbulence can no doubt be attributed to the spin off of Phillips 66.  However, the company has been beating estimates and has been re-aligning assets to capitalize on promising oil shale plays.  Going forward, production from Eagle Ford, Bakken and even Chinese oil fields suggest Conoco may have turned a corner.  Conoco CEO Ryan Lance believes a slow and steady approach wins in the oil business.  That approach should serve value investors well.  The combination of decent dividends now and slowly improving business operations portend a favorable combination of income and capital gains.

Final Foolish Thoughts 

 

<img height="421" src="https://lh3.googleusercontent.com/TXFgSa5AgKqL-Q1_vFeWdXg1El64laJnnbD39AkID_rrGH_bxgjTHzp5RBkcta7uvH7Lu_QnOOKLM5CJQT9zgKzyHcUI6pyocVArR9KVzBg7iVheVMSx" width="550" />
                  

All three companies have dropped significantly from their previous highs.  Marathon and Conoco have begun recovering, Devon is just starting to move off its bottom.  Overall, given its PE ratio, positive earnings surprises, current dividend, and price per barrel of proven reserves, Conoco looks like the best of the lot.  Marathon makes a good second choice, but Devon needs to produce better earnings before I see it as an investment worth the risk.  


dylan588 has no position in any stocks mentioned. The Motley Fool owns shares of Devon Energy. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus