Consider This Dominant Oil Company

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

While the United States was fighting in Afghanistan and Iraq, Russian Oil and Gas Companies were strengthening their footholds in various regions and increasing their production capacity. 

A Russian Oil Company, Gazprom (NASDAQOTH: OGZPY), has continued to build on its dominant position, prospecting and exploring in countries such as India, Algeria, Venezuela, Libya, Kazakhstan, Uzbekistan, Kyrgyzstan, and Tajikistan. 

A Monopoly

Gazprom was created in 1989 when the Soviet Gas Ministry transformed itself into a corporation.  Shortly thereafter Gazprom was privatized, except that the Russian Government ensured that it had control over the company because of its strategic relevance by owning a large percentage of Gazprom's shares. 

After all, Gazprom’s operations account for approximately 10% of Russia’s Gross Domestic Product and Gazprom is one of Putin’s national champions (companies in strategic sectors that are expected not only to earn a profit but also to advance Russia’s national interests). 

When the Soviet Union dissolved and privatized assets that were previously state owned, Gazprom received nearly all of the assets in the gas sector and was able to establish a monopoly – in contrast to the oil sector where assets were divided among several different companies.  That explains why Gazprom is one of Russia’s five largest oil producers and the largest owner of power generating assets in Russia. 

Gazprom is the sole gas supplier to many countries such as Bosnia and Herzegovina, Estonia, Finland, Macedonia, Latvia, Lithuania, Moldova, Serbia and Slovakia.  Gazprom also has a very dominant competitive position in Bulgaria, Hungary, Poland, the Czech Republic, Turkey, Austria, Romania, Germany, Italy, and France. 

Gazprom produces well over 500 billion cubic meters of natural gas each year – that is approximately 20% of the worldwide output and more than 80% of Russian production.  Furthermore, Gazprom’s natural gas reserves are reportedly 35 trillion cubic meters of natural gas, or roughly 18% of the world’s natural gas reserves and 70% of Russian’s reserves.  In addition, Gazprom has more than 750 billion tons of gas condensate.  

The Strategy

Gazprom has a clear strategic advantage: Gazprom owns the world’s largest gas transmission network.  That network has a total length of over 161 thousand kilometers and it allows Gazprom to export gas to more than 30 countries. 

Because enhancing the security of gas supplies to European consumers is one of Gazprom’s strategic objectives, Gazprom has also initiated several new gas transmission projects, most notably Nord Stream and South Stream, which will make it possible both to diversify Russian gas export routes and to ensure the utmost reliability in gas supplies to European consumers.

At present, Gazprom is actively implementing large scale projects aimed at exploring gas resources of the Yamal Peninsula, the Arctic seas, Eastern Siberia and the Far East, as well as hydrocarbons exploration and production projects abroad. 

On January 10th, 2013, for example, the Wall Street Journal reported that Gazprom signed a deal to form a joint venture with Russia’s leading independent gas producer, Novatek to produce liquefied natural gas for Asia, as Gazprom attempts to reduce its dependence on Europe.

The Data

Compared to major US Oil companies such as Chevron (NYSE: CVX) and ExxonMobil (NYSE: XOM), Gazprom appears to have benefited the most from the wars in Afghanistan and Iraq.

Over the past 5 years, Gazprom has grown sales at an average rate of 16%, net income at an average rate of 19%, and dividends at a whopping 48%.  That compares favorably with Chevron, which has grown sales at an average rate of less than 4%, net income at less than 10%, and dividends at around 9%.  It also compares favorably with Exxon, which has grown sales at an average rate of a little more than 5%, net income at less than 1%, and dividends at less than 8%.

Of the three companies, Gazprom has the most attractive valuation based on both Price to Earnings and Price to Book Value.  Gazprom trades at a Price to Earnings Multiple of 3.2, which is almost a third of both Chevron’s and Exxon’s multiple, and a Price to Book Value of 0.44, which is roughly a quarter of Chevron’s 1.67 Price to Book Value and a slightly less than a fifth of Exxon’s 2.4 Price to Book Value.     

Gazprom has not only the most generous dividend yield but also the highest dividend growth rate.  Gazprom pays a dividend of 4.9%, which compares favorably to Chevron’s 3.2% and Exon’s 2.6%.  And over the past 5 years Gazprom has grown its dividend at an average rate of 48%, which compares favorably to Chevron’s 9% and Exxon’s 8%.    

3 Reasons to Consider Gazprom

  1. Gazprom has a dominant competitive position.  Gazprom has a monopoly in much of Europe and appears to have a plan to gain a foothold in Asia.  On the downside, however, the European Union has significant negotiating power and countries within the European Union have repeatedly butted heads with Gazprom over its pricing.
  2. Gazprom has best in class operations.  For two consecutive years, the energy powerhouse has earned more profits than any other country in the world.  In 2012, Harvard Business Review named Gazprom’s CEO as “the best CEO of emerging markets.”  Gazprom also has access to critical countries that are off limits to western countries.   
  3. Gazprom has performed extremely well.  The financial metrics speak for themselves.  Gazprom trades at a low Price to Earnings Multiple, a low Price to Book Value, pays a reasonable dividend, has demonstrated the ability to continue to grow and diversify its products and services, and has a pricing strategy that appears to extract as much value as possible from its consumers.  

My Foolish Take

Gazprom is a dominant company with an outstanding financial performance.  In theory, Gazprom’s best in class operations and outstanding financial performance should translate to share price appreciation and an increase in Gazprom’s dividend payout.  In reality, Gazprom is one of Vladimir Putin’s national champions, which means that the Russian Government’s interests and Gazprom’s interests are aligned. 

So it is unclear whether or not Gazprom’s priority is creating value for its shareholders or on meeting the strategic objectives of the Russian Government.  In other words, it does not always appear as though Gazprom’s projects are always financially justified and it is also unclear whether or not Gazprom has the clout to raise prices in its domestic market.  All in all, Gazprom offers a healthy return, but that return is not without considerable risk.       


 


RyanPeckyno is long Gazprom. The Motley Fool recommends Chevron. The Motley Fool owns shares of ExxonMobil. 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!

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