The depressed oil market has put some of the best companies and their shares on their back foot - Chevron Corporation (NYSE:CVX) is no different. This dividend aristocrat seems to be keen on continuing to reward shareholders for their confidence in their company; evident from the continued <4% dividend yield on the stock. Let's take a look at what exactly I think will make this company and its stock tick in a couple of years down the line, hopefully when oil prices begin posting recoveries and rebound to levels higher than where they are at now.
Recapping Q1 2017
The first quarter of the year was marked with a close as CVX swung to a profit of $2.7 billion. What is important to note is that nearly $600 million from this was gained from the divestitures pursued by CVX during the quarter. Regardless, the bottom line announcement was still impressive considering last quarter's performance where the CVX's bottom line was in the red.
A major reason for the improvement in CVX's earnings is the operations optimization initiative being pursued where it is trying to lower costs and accelerate production. This initiative has brought about visible results in the first quarter of the year. That being said, I believe that as the company continues to exercise this degree of control on its cost lines, it will contribute partially to uplifting the company's bottom lines.
What was my major concern from the quarterly results was how CVX managed to pay out its dividend. It was able to generate$3.9 billion cash from its operation, of which $3.3 billion was directed towards capital expenditure. This is a sign that the company is investing in assets in the present time, that obviously have the potential to give off better gains once they come online - a good metric to measure where CVX is headed in the future. However, the $2 billion dividends paid out by the company seem to be funded from asset sales. Now I look at this in two ways - (1) CVX is shedding of inefficient assets, that allow it to become leaner and more agile going forward (2) it is using the proceeds to maintain its 'dividend aristocrat' title by keeping shareholders happy and rewarding them for their confidence in the company (also allowing it to maintain its <4% dividend yield for the year). However, my biggest concern is triggered when I think of how these dividends will be paid out in the future, since CVX will eventually reach a point where it has no assets to sell off. Would CVX then rely on debt to pay off dividends? The debt ratio stood at 23.6% at the end of the first quarter (total debt amounting to $45 billion), so if debt is the only way to sustain dividends we are not only looking at this particular ratio going up, but that debt slowly creeping into the bottom line and eating away on the earnings that the company has managed to generate. The only way I see dividends being sustainable for CVX is if oil prices rise and the company is able to generate enough for its top line, that would eventually translate into higher cash flows from operations.
Growth projects in the pipeline
While the situation seems to be getting tough with the company's cash flow sustainability, I do have hope for CVX primarily because there are a number of projects that will be coming online in the near future, that could very well offer CVX with the support it needs.
We are looking at improved cash positions from the Gorgon project as production from the project escalates. The company's Permian Basin assets also seem to be doing very well as production has escalated and the number of rigs on the Basin is expected to increase to 20 rigs by the end of next year. The Wheatstone project is expected to come online during the latter half of this year, which I strongly believe could offer CVX additional support on top of what the Gorgon project is already contributing to the oil major.
Holistically speaking, all three projects have the potential to uplift CVX's earnings as and when they come online. My best bet is that these projects will begin delivering in terms of production and financial support latest by the first quarter of next year and we could possibly see the company maintain its earnings position, if not improve it - subject to support from commodity prices. That being said, it is on the basis of this that I believe that there are good things in the making for CVX and investors looking for an investment to dive into and forget about for the next 5 - 10 years should consider CVX as a potential contender for a place in their portfolio.
IEA sees a rebalance in the oil market
Last month's Oil Market Report by IEA reported that the oil market is re-balancing out as the demand and supply is quickly moving into line, even if the inventories are slow to reflect this movement. You can read more about this here. A market rebalance would mean good things for the overall O&G sector, but specifically for CVX it would mean that not only will its assets be worth more (the ones that it is currently investing in each quarter), but we could see an improvement in top lines, which trickle down into higher EPS for stockholders. Moreover, keeping in mind the management's commitment to continuously reward shareholders and maintain and grow their dividend, the market rebalance could play out very favorably for dividend growth investors who hold the stock, since they will then be able to cash higher dividend checks more frequently.
CVX shares have remained bearish YTD, having lost nearly 12% of their value. They now trade in the range of $103/share, way below its 52 week high of $119/share. I attribute most of the decline in capital value to the turbulent commodity market. However, based on my analysis above where I foresee a number of positives playing out for CVX in the next 1-5 years, there is still some hope left for CVX. I wouldn't recommend CVX as a stock for anyone who is expecting the stock to return amazing value in the next 6-12 months horizon. But if you are a dividend growth investor or you are looking to buy and hold for the long term, then you might as well pick up a bit of CVX from the market and add it to your portfolio. My price target on the share price is that it could cross the $120/share mark in the next 12-24 months. Now a lot of this depends on projects coming online on time and the commodity market posting some form of recoveries in term of better oil prices per barrel - but nonetheless, the company makes for a good investment at current price levels only if you can wait out the instability.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.