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For some investors, the leap undoubtedly looks like an opportunity. Chevron is still one of the world’s major energy companies. It is a dividend aristocrat: an increase in the dividend by 8.4% in January marked 33 years in a row where the company raised its dividend. That dividend now gives an attractive 6.8%.
With an understanding of these changes, the opportunity in the CVX stock is not quite what it looks like. The share must be attractive to energy bulls who invest in a rebound. But investors who are just looking for a “cheap” quality name are likely to have better opportunities elsewhere in the market.
Meeting for security analysts
On March 3, Chevron held a meeting with safety analysts. At that time, energy stocks were already struggling. Soft fourth-quarter results from both Chevron and Exxon Mobil (NYSE: XOM) dampened optimism about the sector. The Chevron share was traded at a low of four years. The XOM share had unbelievably reached its lowest level in 15 years.
But Chevron sounded optimistic regardless. The company outlined a plan to return $ 75 to $ 80 billion to shareholders over the next five years through dividends and share repurchases. That figure was almost half of Chevron’s market capitalization of about $ 175 billion.
Adjusted free cash flow was expected to double by 2024, with a return on capital employed of 10%. For all energy investors who want to buy the dip, the Chevron share looked very cheap.
By the end of Monday, it had fallen by a further 44% from the closed day before its analyst meeting. The shares reached a 14-year low.
With Brent crude under $ 30, Chevron’s outlook is quite different. Just three weeks after guidance for annual shareholder returns averaging over $ 15 billion, the company completely shut down share repurchases. Chevron will keep its dividend – CEO Michael Wirth told CNBC that the payout “is our top priority” – suggesting that 2020 returns less than $ 10 billion.
The guidance for capital and exploratory spending in 2020 will decrease by 20%. Production in the Perm Basin decreases by the same amount. Operating costs are also reduced.
Chevron goes back. It will lower costs, lower production and look forward to waiting for this cycle.
But the impact is serious. It is worth returning to the report for the fourth quarter on 31 January, not so long ago. In its profit presentation, Chevron noted that a $ 1 move in the price per Brent crude oil would hit cash flow by about $ 450 million.
Brent crude oil has fallen about $ 24 a barrel since then. It is a hit for the cash flow of over 10 billion dollars. Lower production will only increase the pressure.
In 2019, Chevron generated an operating cash flow of $ 27.3 billion. Investments were $ 14.1 billion and are still directed at approximately $ 16 billion by 2020.
$ 10 billion cut from operating cash flow and free cash flow are almost completely erased.
The decline in the Chevron Stock
From that perspective, the broader decline in Chevron shares is not an overreaction.
To be sure, Chevron will still be profitable in this oil price environment. It will not go bankrupt.
But Chevron also has a market value of over $ 100 billion. The dividend will see pressure in the future if oil prices do not recover. In fact, payments from Exxon and ConocoPhillips (NYSE: COP) are in jeopardy. As Tezcan Gecgil wrote for InvestorPlace this week, the same goes for BP (NYSE: BP). We have already seen a large dividend from explorer Occidental Petroleum (NYSE: OXY), although its catastrophic acquisition of Anadarko Petroleum is to blame.
With free cash flow for current interest rates likely to be relatively thin in the future, the Chevron share actually prices a decline in oil prices. And to be fair, it is possible that rebound will come. There is growing skepticism that Saudi Arabia can keep the line in the price war. Russia can also give.
But that does not mean that the Chevron stock is undervalued here. Rather, it is another piece of evidence to suggest that the market’s response has been somewhat rational. In a “lower for longer” environment, Chevron’s revenues will fall. It will also make the free cash flow.
That’s why Chevron is climbing to cut costs and cut production just three weeks after giving optimistic five-year prospects. The oil business has changed dramatically. It only makes sense that the Chevron stock price would do the same.
Vince Martin has been covering the financial industry for nearly a decade for InvestorPlace.com and other stores. He has no positions in any of the mentioned securities.