- Chevron warned Q4 would be low. Going into the Q4 call, estimates were $2.92. In actuality, EPS fell 21.4% to $2.57.
- Chevron has a more attractive upstream portfolio than Exxon and less "P/E" baggage than BP.
- Chevron's investment in LNG will pay off this year as China continues to demand more methanol than it can supply.
Chevron (NYSE: CVX) is cheap relative to its peer group, especially when looking at the value of future earnings growth - the question is whether or not the market will acknowledge it. This is a quick overview of both the Bull and Bear case for Chevron. At the end I'll discuss which case I think is more likely to occur, and compare CVX with its peer group using relative valuations.
- CVX does everything from exploring to refining which is to say it has a vertically integrated business model that can leverage costs along those same verticals.
- Several upcoming projects in the Gulf of Mexico, West Africa, and northwest Australia are proving that the company can be successful in hard-to-reach or remote areas. These areas also lack resources in terms of physical infrastructure and can pose obstacles/bottlenecks if not handled properly.
- Growth in the liquid natural gas, or LNG, market is growing, especially in China. IHS Chemical published a report in 2013 that said China has increased consumption of methanol, a byproduct of liquid natural gas, by 23% from 2010 to 2012.
Northwest Innovation Works, a socialist/capitalist joint venture between the government of China and BP (NYSE: BP), formerly British Petroleum, wants to invest a total of $3.6 billion over the next three years in liquid natural gas as well. The goal is to build two facilities in Washington State and Oregon that burn 640 million cubic feet of natural gas per day in the production of 10,000 metric tons.
"Geographically, China remains the growth center for methanol demand, with an average annual growth of slightly more than 12 percent, while the rest of the world is growing at just below three percent. China methanol consumption will triple from 31 million metric tons in 2012 to 97 MMT in 2022."
Northwest Innovations Works facilities won't be online until 2018 and herein lies the opportunity for Chevron.There are two LNG projects in Australia, which is ~2,000 miles closer to China than the state of Washington, that will drive growth over the next 2-3 years. Gorgon is expected to start in late 2014 adding more than 200 mboe/d; and, Wheatstone, scheduled for 2016, will add another 200 mboe/d. Chevron also recently acquired a 50% interest in the Kitimat LNG project in Canada. According to the Apache Canada website, Chevron will operate the LNG plant and the pipeline; Apache will operate the upstream assets. (click to enlarge)(Source: Apache Website)
- Q4 estimates were $2.92 going into the Q4 earnings call. In actuality, EPS was $2.57. Revenue fell from $56 billion to $54 billion, and earnings fell 32%, from $7.2 billion to $4.9 billion. Shares fell 4.1% to $111.63 on the news.
- Overcapacity has led to narrow downstream margins. Asia-Pacific and the Middle East continue to expand refining capacity.
- Industry pricing as a whole may be pressured as foreign energy companies find it increasingly difficult to compete with municipal economies that are protective of natural resources.
- LNG growth is affected by currency fluctuations. Operators in Australia have experienced cost inflation based on currency appreciation.
- LNG projects are in countries with high political risk; a change in regimes could lead to a change in policy for foreign companies.
- The Gulf Oil Spill in 2010 continues to weigh on industry P/E levels. The chart below shows the impact it had on Chevron, Exxon (NYSE: XOM), and BP - all three were converging in price before the spill. While Chevron has more than recovered, there may still be some residual fallout for the industry as a whole. (click to enlarge)
CVX data by YCharts
Bears make a good case, but Bulls Win on growth
According to Thomson/First Call Data, out of a group of 18 brokers, the average price target for the company is just shy of $130 at $129.56. The high target is $141 and the low target is $120. I'm bullish too and believe the company will see $130 as early as June.
While Chevron has a high capital spending plan for new projects through 2016, Exxon is pulling back, which only serves to increase Chevron's economic moat - indeed Chevron's moat is upstream operations, which is hard to do for a refiner of a commodity.
Chevron's P/E is 10.38x, which is lower than 66% of other companies in the industry. In terms of future earnings growth, the company has a 5-year PEG ratio of 1.83 compared to Exxon's 4.00, which underscores the notion that Chevron has a more attractive - or at least closer in term - upstream portfolio that's already adding to production. The success of these projects is a credit to the company's deep relationships, which is the primary driver behind Chevron's moat "depth" and long-term competitive edge.
And don't forget about the possibility of a stock split. The last time Chevron split was in 2004, and shares were trading at $80. I wouldn't be surprised to see another split within the next 16 months.