Is This Energy Giant a Good Stock to Buy?
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We admit that Chesapeake Energy Corporation (NYSE: CHK) has its problems, and that you probably should not buy the company for its dividend, but if it is good enough for Mason Hawkins and Carl Icahn, then why should you not own it? See our thoughts on why Hawkins and Icahn love Chesapeake.
At a dividend yield of 1.8%, we can agree that its probably not worth the risk to buy the stock for such a small yield, especially as the company looks to meet cash flow demands—meaning that in a pinch the company may have to cut back dividend payments to pay debtors. However, this does not make the company any less attractive for a speculative play. Insiders also agree that the company could be a buy at current levels, as there have been a number of purchases around the current price—see the details in our insider trading report.
The company is a pure-play in natural gas, and we believe in this particular commodity. The continued low natural gas prices have kept drilling activity low for 2012, and inventory is up 10% from the same time last year. However, consumption for 2012 is expected to be up 5% from 2011. The EIA forecasts a near-normal upcoming winter, which should increase residential natural gas consumption 12% and commercial consumption 10% for 2013.
The potential for more uses of natural gas, such as powering vehicles, is in direct competition with major oil companies such as ExxonMobil Corporation (NYSE: XOM) and Chevron Corporation (NYSE: CVX).
Oil prices have been on the rise since earlier this year. After dipping below $80 per barrel in May, on tempered economic and demand projections, prices started ticking up on hopes that the European Union and the U.S. would provide additional economic stimulus. Sanctions on Iran and possible Israeli action against Iran have also aided prices. However, even though higher oil prices are good for Exxon and Chevron, they are not necessarily good for consumers. Many believe that the large supply of natural gas in the U.S. would provide for cheaper and more stable energy costs.
Chevron saw production fall 3% in 2011, but is predicting increases through 2017. Chevron is also funding major development projects internally, with two deepwater projects expected to go live in 2014. Meanwhile, Chevron is refocusing its attention to more profitable upstream projects and restructuring its downstream segment. It also has an aim to develop liquid natural gas projects and build up gas supply positions in Asia. Admittedly, the company has many initiatives that it has to execute and get correct or it runs the risk of losing more market share to Exxon.
Unlike Chevron’s production decline, Exxon upped production 1% in 2011, but is targeting a 3% decline in 2012. The company has outpaced Chevron over the past year on a market cap basis due to its already stable upstream opportunities in deepwater, as well as liquid natural gas and onshore unconventional plays. Irrespective of Exxon’s battle with Chevron for market share, Exxon has its own secret battle with Apple and Google. Although both Exxon and Chevron trade in line on a P/E and P/S basis, we believe Chevron has a tougher road ahead. However, insider sales of Exxon have been prevalent so far this year, but we still believe the valuation is fair.
There has been an increase in inventory stockpiles of coal as a mild winter caused decreased demand. As well, low natural gas prices caused many power producers to switch from coal, only accelerating the coal inventory buildup. Peabody Energy Corporation (NYSE: BTU) is another stock you should not buy just for the dividend, yielding only 1.5%, but is a company with significant exposure to coal demand. 2012 revenues are expected to come in flat, after a 17% increase in 2011. However, unlike other coal companies, Peabody should be able to better weather the continued decline in coal consumption given the magnitude of the company’s operations and international exposure.
In addition to conventional energy plays based on commodities, such as oil, natural gas and coal, an overlooked company is one that is jumping head first into the renewable energy sector, General Electric Company (NYSE: GE). The company is expected to enter the solar market in 2013 with the manufacturing of solar panels, but also has products that span various energy generating operations. GE gets around 30% of its revenues from its energy infrastructure segment. This includes the likes of gas turbines and generators, wind turbines, solar technology and coal gasification systems. Even with its diverse operations the company trades a bit rich for us, with a P/E around 20 and a beta of 1.6, compared to cheaper and less volatile competitors 3M and Carlisle Companies.
In checking on Chesapeake’s valuation, we still find the numbers compelling. The company trades at a trailing P/E of 7, where the industry average is around 20. As well, the company is also cheap on a P/S basis, trading at 1.1x, versus top competitors Southwestern Energy and Pioneer Natural Resources at 5.7x and 4.2x, respectively. We like Chesapeake’s prospects and the outlook for natural gas—better than that of oil or coal, but would also be interested in GE on a pull back.
Interested in Additional Analysis?
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This article is written by Marshall Hargrave and edited by Jake Mann. They don't own shares in any of the stocks mentioned in this article. The Motley Fool owns shares of General Electric Company and ExxonMobil and has the following options: long JAN 2013 $16.00 calls on Chesapeake Energy, long JAN 2013 $25.00 calls on Chesapeake Energy, short JAN 2014 $17.00 puts on Chesapeake Energy, long JAN 2014 $20.00 calls on Chesapeake Energy, and long JAN 2014 $30.00 calls on Chesapeake Energy. 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.