In this article, I'll discuss Total's (TOT) past quarter as it's one of my favorite dividend stocks. I will provide my opinion about the Q3 financial results and will talk about the company's projected dividend in the foreseeable future. This will result in my investment thesis at the end of this article.
Total's main listing is on the Paris Stock Exchange, but there's sufficient liquidity on the New York Stock Exchange as well.
My view on the financial results
In the third quarter of this year, Total reported a revenue of $61.8B, which is 1% lower than the comparable quarter last year. This resulted in a net income of $3.7B, which was 5% lower. This might sound pretty bad, but it's even worse if you look at the results in Euro (as Total is a French company, it usually reports its numbers in EUR as well), as the net income decreased by 10%, which is obviously a steeper fall thanks to the EUR/USD rate of Q3 2013 compared to Q3 2012.
When digging deeper in the results, it becomes very clear that the refining business is the real culprit of this profit fall, as Refining and Chemicals recorded a 38% drop in operating profit, to just $437M. The company's upstream activities were also hit very hard, showing a drop of 15% in operating profit. On the other hand, Marketing and Services did really well in the quarter, showing a 43% net operating income increase.
The refining business was extremely hard hit because of the steep decline in the European Refining Margin Indicator (ERMI) which averaged just $10.6/t in Q3 of this year, compared to $51 (!!) in the same period last year and a 127% higher margin in Q2 of this year. This obviously had a gigantic impact on the operating margin of the refining subsidiary.
And I think it won't end here, as the ERMI has decreased even further to single-digit levels which will obviously put the operating margin under severe pressure. Fortunately, Total will benefit from a new refinery in Saudi Arabia, which should be helpful to put the refining business back on track by Q1 2014.
I'm a bit disappointed with the results in Q3, as a 5 (or 10)% decreased net income won't get a lot of investors very excited. On top of that, as the ERMI continues to contract and I'm not convinced at all the expected higher oil and gas output in Q4 will be sufficient to compensate for the decline in the refining business. Q3 was extremely disappointing and I don't expect Q4 to be a lot better, unless the ERMI suddenly increases again to at least $15-20/t.
I originally wrote about Total as a 'must-have' dividend company. Over the past few quarters, Total has paid a quarterly dividend of 0.59 EUR/share (at the current EUR/USD rate, this would be approximately $0.81/Q). As Total has already confirmed the dividends which will be payable in December of this year and March of next year, I expect Total to remain a steady dividend payer. In fact, the chairman of the board has been hinting at a dividend increase, despite the fact that the planned divestments haven't been fully completed yet.
I'm not sure it's wise to raise the dividend, as I think the current yield is already very attractive, and it might make more sense for Total to expand its production instead of paying a higher dividend yield. For every cent the company does NOT increase the dividend, it keeps $89M per year in its treasury which could be used to acquire smaller assets. I feel the current dividend yield is sufficient to attract investors, and I wouldn't really be in favor of any dividend increase.
Keep in mind there's a 30% French dividend tax which can be reduced to 15% if you fill in the right forms.
Investment Thesis and strategy
Since I first wrote about Total, the share price has increased by 25%, which is an enormous move for a company with a gigantic ($100B+!) market capitalization. Keeping this in mind and looking at the worse than expected Q3 financial results which will probably not be reverted in Q4 of this year, I'm more cautious about my investment in Total than ever before, and will very likely take some profits after the table.
As such, I will probably sell a part of my shares, and will write call options on the remaining share position, to partially hedge the downside risk with the option premium. As I have bought my shares through the facilities of the Euronext Paris Stock Exchange, I will also write my calls on the PSE. When looking at the current option premiums on the NYSE, I think writing C 60s January 2014 for an option premium of $2.25 and a C 55 May 2014 for $6.75 might offer sufficient downside protection. The risk is obviously that your shares will be called away at $60 and $55 respectively.
Additional disclosure: I am long TOT, but might write (covered) call options within 72 hours after publishing this article.