If a stock is down more than 25% year to date, that sounds pretty bad. But when that stock is in the oil industry, and its peers are down between 35% and 50% year to date, that sounds pretty good. It also sounds like integrated oil major Chevron (NYSE:CVX).
Chevron is the second-largest energy company in the world by market cap, surpassed only by its fellow U.S. oil juggernaut ExxonMobil (NYSE:XOM). But of the five oil majors, it's actually the smallest in terms of annual revenue. It has the least amount of debt among its peers, but also the second-lowest dividend yield. It's tough to know what to make of all these contradictions.
Let's take a closer look at Chevron to see whether it's a buy.
The price is wrong
A big reason for Chevron's poor performance this year is low oil prices. When an oil price war broke out between Saudi Arabia and Russia in early March, global oil prices were cut roughly in half. Since then, the major benchmark per-barrel prices have mostly bounced around between the high teens and low $30s. Currently, international benchmark Brent crude and U.S. benchmark WTI crude are both trading above $30 per barrel, which has caused some optimism within the oil industry.
The trouble is, Chevron can't make money even at $30-per-barrel Brent crude, even with a 30% reduction in its 2020 capital expense budget. On its Q1 earnings call, the company projected $30-per-barrel Brent crude through the first half of 2021. At that price, the company estimated it could cover its dividend with funds from operations, but would have to take on debt and/or sell assets to cover all its other expenses, including capital expenses.
With fuel demand beginning to increase as countries start lifting coronavirus-related travel restrictions, and with OPEC+ production cuts kicking in this month, it's possible oil prices will be higher than Chevron expects. But it's equally possible that a resurgence of COVID-19, another price war, lack of available oil storage, or some other unrelated incident will result in lower prices than Chevron is predicting.
It's worth noting that the last time oil prices were this low was in 2016, during which time Chevron posted three consecutive quarterly net losses.
Of course, if nearly all your operating cash flow is flowing straight into dividend payments, one easy solution would be to cut the dividend. However, that doesn't seem likely for Chevron -- at least, not anytime soon.
Like its peer ExxonMobil, Chevron is a Dividend Aristocrat. It has upped its payout every year for the last 33 consecutive years with no cuts. Management knows how important that is to shareholders, and made "protect the dividend" one of its four main strategies to safeguard its balance sheet.
Considering that Chevron's Plan A involves taking on debt, it's a good thing the company's balance sheet is solid. Chevron currently boasts the best balance sheet of the integrated majors. Its current credit ratings of AA/Aa2 were recently affirmed by S&P Global and Moody's, which should allow it to access low-cost debt. Meanwhile, management bragged on the earnings call that its "net debt ratio" of 14% was lower than its peers, and could be safely raised to 25%.
In other words, Chevron seems well positioned to weather the current conditions in the oil markets without trimming its dividend.
The end game
Just because Chevron seems likely to make it out the other side doesn't mean it's a buy, though.
Remember that Chevron's plan is to basically batten down the hatches, take on billions of dollars in debt, pay its full dividend, and hope for a brighter future. That's not exactly a compelling business proposition. On top of that, the company is cutting capital expenses and production, especially onshore unconventional production, which is generally higher cost and lower margin. But Chevron has a lot of onshore unconventional production in its portfolio.
In 2019, 38.8% of Chevron's liquids production was U.S.-based (the highest percentage among the integrated majors), and 48% of that was Permian Basin unconventional production: 18.6% of the company's total, or about 446,000 barrels of oil equivalents per day. Chevron has announced that most of its $2.5 billion in unconventional production spending cuts will be coming from the Permian Basin, where it is already curtailing production and cutting rigs. That's a lot of high-cost production to cut that won't be made up elsewhere, which may leave the company in in a weakened position when (if) oil prices rise above $50 per barrel again.
Nice dividend, iffy otherwise
With its strong balance sheet and commitment to maintaining its dividend, which currently offers a solid 5.4% yield, Chevron is worth a closer look for dividend investors.
For everyone else, the company -- and the oil industry in general -- looks to be preparing for a long, hard slog over the next couple of years. There are better places in the energy sector for your money right now.