Check out the latest Occidental Petroleum earnings call transcript.
Occidental Petroleum (OXY 0.58%) has spent the past few years optimizing its portfolio. These actions included selling noncore assets and replacing them with those that were a better fit, investing in high-return opportunities, and cutting costs. As a result of this strategy, the company can now fund its dividend as well as the investment needed to maintain its current production rate on the cash flows it can produce on $40 oil.
That puts Occidental Petroleum in an excellent position entering 2019, as it has unparalleled flexibility to match spending with oil prices while also returning significant amounts of cash to shareholders. That sets it up to create value for investors no matter what happens with oil prices this year.
Image source: Getty Images.
Drilling down into Occidental Petroleum's 2019 plan
Unlike most peers, Occidental Petroleum didn't set a firm capital budget for 2019. Instead, the company outlined several capital spending scenarios. Its base plan starts at $50 a barrel -- which is about where crude is these days -- and works its way up from there:
|
Oil Price |
Capex Range |
Annual Production Growth Rate |
|---|---|---|
|
$50 |
$4.4 billion to $4.5 billion |
8% to 10% |
|
$55 |
$4.8 billion to $4.9 billion |
10% to 12% |
|
$60 |
$5 billion to $5.3 billion |
11% to 13% |
Data source: Occidental Petroleum.
As that chart shows, Occidental Petroleum plans to ramp up spending along with oil prices. That will enable it to grow production at a faster rate, since the bulk of the incremental investment would be in the Permian Basin, where wells come online quickly.
In addition to investing to grow output at a healthy rate this year, Occidental Petroleum expects to return a significant amount of cash to investors. The company already pays one of the highest-yielding dividends in the oil patch, with a current yield of 4.8%. However, it's highly likely that the company will increase its payout in 2019, which would extend its streak to 17 consecutive years with a dividend increase.
On top of that, Occidental expects to repurchase more shares as part of the $2 billion authorization it set last year. Because the company intends to fund that buyback with cash on hand from last year's outperformance, investors can bank on its completion even if oil remains below $50 a barrel during 2019. Meanwhile, if crude prices rebound above $60 again this year, the company plans on allocating some of that excess cash to repurchase even more shares.
Image source: Getty Images.
Flexibility is the new trend in 2019
Occidental Petroleum's flexible spending plan reflects its view that oil prices will likely remain volatile in the coming year. That's why it's deviating from the industry's standard practice of setting a firm budget so that it has the freedom to adjust spending along with oil prices. The company won't have to worry about cutting its budget if crude dips below $50 a barrel, since it has a nice cushion after ending last year's third quarter with $3 billion in cash even after repurchasing $887 million in stock.
Occidental isn't the only producer adopting a more flexible approach for 2019. Another is Diamondback Energy (FANG 0.88%). Overall, the Permian-focused producer set its 2019 capital budget to a range of $2.7 billion to $3.1 billion, which the company can fund with the cash flows produced around the current oil price. That spending level can support 18 to 22 drilling rigs this year, down from 24 in 2018, which sets the company up to grow production 28% at the midpoint of its guidance range.
However, Diamondback's CEO Travis Stice made it clear that the company has the flexibility to adjust spending along with the price of oil. He stated that "if commodity prices continue to decline, we will further reduce activity to match our budget to expected annual operating cash flow. Conversely, and most importantly, if commodity prices improve dramatically and we have significant free cash flow above our base dividend and capital budget, our capital allocation strategy will reflect a mix of growth and an increasing return of capital." In a worst-case scenario, Diamondback Energy noted that it could reduce its rig count to 14, which would enable the company to end 2019 producing at the same rate at which it finished last year.
Set up for a strong year
After spending a few years repositioning its portfolio for lower oil prices, Occidental Petroleum enters 2019 with tremendous flexibility. Thanks in part to a spending boost late last year, the company is set up to grow production at a fast pace in 2019 at the current oil price of around $50 while also returning a significant amount of money to its investors. Meanwhile, if oil prices rise, it can ramp up spending and boost shareholder returns, while its cash-rich balance sheet will cushion it if crude falls. Because of that, the company is well positioned to create value for investors this year no matter what happens with the price of oil, which is why I think it's the top oil stock to buy with 2019 in mind.
