I have been analyzing big oil stocks that offer a good return on investment for a value investor. My analysis here is based on the profitability ratios in the financial statements of Total SA (TOT) over the last five years.
When a firm has strong profitability ratios, it portrays to an investor that it provides a good return on his or her investment. The profitability numbers that I came across for Total weren't that impressive. Keep in mind, however, that this is just one of the many ways to analyze a stock.
Total SA is a France-based integrated international oil and gas company. With operations in more than 130 countries, Total SA is involved in all phases of the petroleum industry, including Upstream (oil and gas exploration, development and production, liquefied natural gas) and Downstream (refining, marketing and the trading and shipping of crude oil and petroleum products). It also produces base chemicals (petrochemicals and fertilizers) and specialty chemicals for the industrial and consumer markets. In addition, TOT has interests in the coal mining and power generation sectors.
A profitability analysis of a company involves looking at a class of financial metrics to determine a firm's capacity to generate profitable sales from the resources it has. Typically, higher ratio numbers translate to a higher investment value for the firm.
Source: Total SA annual reports.
Operating income divided by net sales is the calculation used to obtain the operating profit margin. The operating margin has been less than the industry average in the last five years.
Net income divided by net sales gives you the net profit margin. The net profit margin has also been less than the industry average in the last five years.
TOT has generally better return on sales ratios than BP PLC (BP) and Royal Dutch Shell (RDS.A) over the last five years. Nonetheless, it lags behind industry leaders Exxon Mobil Corporation (XOM) and Chevron Corporation (CVX).
The profitability ratio industry averages for 2012 are still being calculated as the TOT annual report for 2012 has not yet been released. (I promise to put in the ratios on the comments section to this article when they become available.) Anyway, it's safe for investors to assume that the 2012 TOT values will be lower than the industry averages.
The Return on Investment ratios aren't as impressive when compared to the industry as a whole. Almost all of TOT's closest rivals are generating better returns except for Shell.
The Return on Equity (ROE) ratio is arrived at by dividing the net income by the shareholders' equity. The ROE has risen from 2009 to 2010, and then again increased from 2010 to 2011. Yet, it is lower than the 2008 level.
As for the Return on Assets (ROA), it is obtained by dividing the net income by the total assets. The ROA has been hovering around the industry average over the last five years.
Total's income statement is shown in the table below. The income statement numbers are lower than its closest competitors over the last five years. These income statement values are important as they portray to an investor whether TOT has the ability to pay its rather high dividend.
Even though Total SA's dividend has fallen 59.17% over the last five years, the company is still offering investors a 7.40% yield, which is a lot higher than the other big oil stocks. This is what makes owning TOT so appealing as it pays a dividend that is approximately 20 times that of your average savings account. Additionally, shareholders have actually seen the energy company raise its distribution by 12.82% since June 2012.
The numbers used to arrive at the profitability ratios listed in the 'Return on Investment' table are shown in the table below. TOT's assets clearly aren't as big as the other big oil stocks.
Furthermore, the company carries $43.94 billion worth of debt on its balance sheet (for comparison, ExxonMobil carries $12.4 billion worth of debt on its balance sheet, and Chevron carries $12.3 billion worth of debt on its balance sheet). Although given the low rates, the debt payments are well covered when viewed in terms of the company's total cash flow.
The trend that can be seen across the board is that big oil stocks have continued to grow their assets rapidly over the past five years. Total SA has proven reserves of over 5.7 billion barrels of oil, and 31 trillion cubic feet of natural gas. This is still not as big as some of the world's biggest energy companies. For comparison, ExxonMobil's proved reserves totaled 25.2 billion oil-equivalent barrels and 74 trillion cubic feet of total proved natural gas reserves.
Note: U.S. dollar in millions.
Free Cash Flow = Operating Cash Flow - Capital Expenditure
Free cash flow is a measure of financial performance that must be taken into account. It is calculated as operating cash flow minus capital expenditures. Free cash flow (FCF) represents the cash that a company is able to generate after laying out the money required to maintain or expand its asset base. Free cash flow is important because it allows a company to pursue opportunities that enhance shareholder value. Without cash, it's tough to develop new products, make acquisitions, pay dividends and reduce debt.
Over the past five years, TOT's free cash flow has remained positive. Still, it must be noted that negative free cash flow is not necessarily a bad thing. When the free cash flow is negative, it could be an indication that a firm is making large investments. This could work out very well for a company in the future if these investments earn a high return.
Note: U.S. dollar in millions.
The positive cash flow is a sign that TOT has enough cash to develop new products, make acquisitions, pay dividends and reduce debt. The free cash flow values are still lower than Total's closest competitors, though.
Cash Flow Margin = Cash Flow from Operating Activities / Total Sales
A high cash flow margin can indicate that a company is efficient at converting sales to cash, and may also be an indication of high earnings quality.
On the other hand, a low or negative cash flow margin means that a firm will have to borrow money or require a large influx of outside capital in order to keep on operating.
As Total's cash flow margin is positive, it can continue operating without any foreseeable cash problems.
Conclusion: Bullish on big oil stocks
TOT is currently trading at $50.49 and extensive fundamental analysis reveals that the stock is undervalued. The profitability ratios are not too bad and even the near term price action is encouraging for bulls.
The stock is up 2.48% over the last month and its edging closer to its 52-week high. This is a great time to buy TOT shares. Big oil stocks will always offer a great return on investment.
The Organization for Economic Cooperation and Development (OECD) came out with a report that outlined how India and China will emerge to eventually become larger economies than the United States. In China's case, it will happen in the next five years, and for India, it will take another 40 years.
The United States will also continue to grow with the GDP per capita expected to double over the next 50 years from about $43,000 right now to $92,000 in 2060, according to the same OECD report. These higher incomes and living standards will increase the demand for energy.
It doesn't hurt that Total SA continues to explore for new sources of oil with tremendous success. Investors should keep a watchful eye on the company's dividend behavior over the next year and any big developments that may come out of its joint-venture with Qatar Petroleum.