Oil prices have fallen to multi-decade lows as the COVID-19 pandemic has brought economic and industrial activity to a halt around the world. Oil consumption has plunged by 30% and is expected to decline by an average of 10% for the full year. As a result, the world is awash in a massive oversupply of crude oil that's expected to keep oil prices low for many months, and that's expected to cause it to take much longer for the oil industry to benefit from the eventual recovery of economic activity.
That's made a massive swath of the oil patch uninvestable. We have already seen companies start to file bankruptcy, and the number that becomes insolvent is only going to grow longer in the weeks and months ahead. In other words, it's likely to get worse for many companies in the oil and gas industry before it gets better.
But there are companies that have the financial strength and high-quality operations to ride out the downturn and emerge on the other side in fine shape. To help investors get started finding the best companies in the oil industry that can survive the oil crash, we asked four Motley Fool contributors to weigh in. They identified the following oil stocks for you to consider: Global oil production giant ConocoPhillips (COP -1.27%), Big Oil giants Royal Dutch Shell (RDS.B) (RDS.A) and ExxonMobil Corp (XOM -1.54%), and midstream, refining, and petrochemicals giant Phillips 66 (PSX 0.11%).
Built with a downturn in mind
Matt DiLallo (ConocoPhillips): Oil giant ConocoPhillips has spent the past several years repositioning its business for another oil market crash. It found itself a bit underprepared for the market downturn of 2014, which drove its desire to make sure it was able to withstand another swoon. It made several changes over the years, including selling higher-cost assets and using the proceeds to strengthen its balance sheet.
Because of that, ConocoPhillips entered this crash in a much better position than most peers. Not only does it have one of the lowest-cost operations in the sector, but it also has one of the strongest balance sheets. It started this year with $5.4 billion of cash and another $3 billion of short-term investments, which it paired with the second-lowest leverage ratio in the oil industry. That fortress-like balance sheet will help keep it afloat during the current market slump.
The company also stress-tested its long-term business plan to assume three years of low oil prices with no mitigations. Even in that scenario, its balance sheet held up. However, it built a lot of flexibility into that plan so that it could adjust to market conditions. That allowed it to act quickly during this downturn to ensure it survives. Recently, ConocoPhillips has suspended its share repurchase program, slashed capital spending, and reduced other expenses. Those moves will preserve $5 billion in cash this year.
These factors enhance ConocoPhillips' ability to survive 2020's oil market crash. Furthermore, its financial strength positions it to potentially take advantage of the situation by acquiring a rival at a depressed value.
The rest of the best
Jason Hall (Phillips 66): I agree with Matt that ConocoPhillips is the rare pure-play oil producer built to ride out the current environment. But I think the other part of the business that was separated in a 2012 spin-off -- Phillips 66 -- is the better business to own right now. While ConocoPhillips certainly has the financial strength to ride out the current extreme-low-price environment, the refining, petrochemicals, and pipeline business that makes up Phillips 66 should prove less impacted and be quicker to see the benefits of the eventual economic recovery.
Phillips 66's core business is a little more insulated from the oil crash. It doesn't produce any oil, so it's not caught in the same boat as companies with oil production, selling their product for less than it costs to produce it. Next, its petrochemicals business has held up relatively well. Much of its demand is exclusive of transportation, with the feedstocks it makes being used for products like fertilizers and plastics for medical, industrial, and consumer products. Additionally, much of its pipeline business is focused on natural gas, which is used for petrochemicals and energy production. Neither of those demand sources have seen anything like the collapse that oil has.
So yes, its refining and fuel marketing businesses will feel a big pinch. Gasoline and jet fuel demand has fallen by half and inventories of refined products are starting to fill. But with more than $5 billion in cash and liquidity it can tap in a pinch, the company will survive even a protracted downturn when other companies will fail. Most importantly, its businesses are more likely to see a quicker increase in demand when the economy does start coming back online.
John Bromels (Royal Dutch Shell): Some of the best-positioned companies to weather the oil price crash are, of course, the integrated oil majors. Thanks to their size and the comparative strength of their balance sheets and credit ratings, they simply have more financial flexibility to power through a prolonged period of low oil prices. And because they all have extensive downstream (refining and marketing) operations, they aren't 100% dependent on energy prices the way smaller exploration and production companies are.
In particular, Royal Dutch Shell looks strong right now. The company's best-in-class dividend yield has soared to 11.1%, which might make investors a bit nervous, but Shell did an admirable job of managing its finances through the last oil price downturn of 2014–2017 without a dividend cut, and looks poised to do so again.
As of the end of 2019, Shell had $18.1 billion in cash and equivalents on its balance sheet. Meanwhile, its long-term debt load of $65.9 billion is on the lower end of the spectrum compared to its mega-oil peers, at 1.2 times EBITDA compared to a range of 0.9 times to 2.3 times. It has a high-grade credit rating of AA-/Aa2 from the major ratings agencies, which should ensure it can access additional capital if needed.
Finally, Shell was quick to announce a 2020 capital and operational spending cut of about 20%, coupled with a suspension of its share buyback plan, which will help free up additional cash. Things may be rough in the oil industry in the coming months and years, but there's little doubt that Shell will make it out the other side intact.
Size really matters
Travis Hoium (ExxonMobil): I'm not a big fan of Big Oil in a lot of ways, but if we're talking about surviving the oil crash then there's no better place for your money to be. ExxonMobil's diversified business with refineries, chemical products, and pipelines, as well as its sheer scale is what I would bet on in the oil industry.
You can see in the chart below that ExxonMobil's scale is something that can't be matched in most industries, whether you're looking at revenue or earnings.
What ExxonMobil hasn't done is keep a big cash cushion on the balance sheet, as you can see, with just $3.1 billion of cash and equivalents. But that's because debt markets are typically open to the highly rated oil giant and it has big levers it can pull to cut expenses. It did just that earlier this month, cutting capital spending by $10 billion in 2020 and reducing operating expenses by 15%.
Diversity plays a big role in why I think ExxonMobil is going to survive the oil crash, but the scale is the company's real advantage. It may be too big to fail, and right now that's an advantage in a cratering oil market.