With crude oil prices surging to levels not seen in more than two years, things look upbeat for energy companies after an incredibly challenging 2020. If you are looking to invest in the sector as it recovers, it makes eminent sense to do so only in top stocks, which are still trading cheap compared to their historical levels.
As high-quality energy stocks are available at attractive prices even now, you need not look at risky names to get high yields. Integrated energy giant Chevron (CVX -1.10%) is currently trading at a dividend yield of around 5%. Though that's roughly 1% lower than what it was offering in February, it is still very attractive for a top stock like Chevron. Let's see why.
34 years of dividend growth
With a 4% dividend increase for the first quarter, 2021 is Chevron's 34th consecutive year of dividend growth. Not many energy companies can boast of that long of a dividend growth streak. BP and Royal Dutch Shell both slashed their respective payouts last year due to an extremely tough market for oil and gas. Since 2005, Chevron's dividend has grown at a compound annual growth rate of more than 7%.
Further, Chevron's dividend growth hasn't come at the expense of its balance sheet strength. The company's balance sheet stands stronger than its top peers.
Some investors fear that Chevron's conservative capital spend may hurt its production capacity in the long-term, which may in-turn impact its dividend growth. The company's 0% to 3% production growth guidance for 2021 adds to that concern. However, that isn't the case. Let's see why next.
Chevron continues to invest for growth
Chevron's capital discipline doesn't mean the company is sacrificing future growth to conserve cash. An indicator of an oil company's growth sustainability is its reserve-replacement ratio, which is calculated by dividing additions to reserves by production. Chevron's five year reserve-replacement ratio is 99%, which shows that it can largely sustain its production at current levels without exhausting its proved reserves.
The company expects $14 billion of capital and exploratory expenditure in 2021. Between 2022 to 2025, it expects to spend an average of $14 billion to $16 billion in capital and exploratory projects. That should help it maintain its reserve-replacement ratio close to 100%. Chevron's investments in Kazakhstan and the Permian Basin are expected to drive its cash flow growth in the medium term.
Capital discipline provides resilience
Chevron's capital discipline, without hurting long-term growth, makes it somewhat resilient to commodity price volatility. The company expects that if Brent oil price drops to an average of $40 per barrel between 2021 to 2025, its net debt ratio may rise to around 35% from the current 25.6%, without the need of a dividend cut.
On the positive side, an average Brent price of $60 per barrel over the same timeframe will allow Chevron to generate excess cash, after capital expenses and dividends, of over $25 billion in five years. So, it expects to be resilient to lower commodity prices while benefiting from higher prices.
A top energy stock
Another key factor that makes Chevron a long-term buy is its measured approach toward energy transition. The company recently announced collaboration with Toyota Motor to develop hydrogen businesses.
Moreover, Chevron continues to invest in low-carbon technologies through venture investments in geothermal, wind, and other clean energy projects. That hedges the company's dependence on oil and gas in the very long-term, should their use decline quicker than expected. At the same time, this approach allows it to continue generating cash from its established oil and gas business.
Attractive yield, an established track record of dividend growth, capital discipline with a focus on growth, a strong balance sheet, and openness to emerging low-carbon technologies make Chevron my top energy stock to buy this month.