John Bogle, the former CEO of Vanguard, once said, "Successful investing is about owning businesses and reaping the huge rewards provided by the dividends and earnings growth of...corporations."
Indeed, owning companies that provide tangible shareholder returns is one of the best ways to grow wealth. In a sense, dividends harness the power of compound interest by passing along earnings directly to the owners (i.e., shareholders) of a corporation.
If you can find companies that are not only paying dividends but increasing them, all the better. With that in mind, let's take a look at a company that's delivering tremendous shareholder returns: Coterra Energy (CTRA 0.69%).
What does Coterra Energy do?
Coterra is an independent oil and gas producer headquartered in Houston, Texas. It operates drilling and production facilities across nearly 600,000 acres in the United States. It focuses mainly on the Marcellus Shale, which extends through West Virginia, Pennslyvania, and New York. The company is also active in the Anadarko Basin in Oklahoma and the Permian Basin in West Texas and New Mexico.
Natural gas makes up the bulk of Coterra's production. Its main customers are industrial manufacturers, local distributors, and power generating facilities that run on natural gas. In its most recent earnings report (the three months ending Dec. 31, 2021), 87% of Coterra's production was natural gas or natural gas liquids; oil comprised only 13% of production. However, its oil production punched above its weight when it came to revenues -- forming 29% of quarterly revenue. What's more, oil production is rising, having grown 9% from the prior quarter.
Charts by author. Data provided by Coterra in Q4 2021 earnings presentation.
How it's maximizing shareholder returns
With oil and gas prices soaring, Coterra's stock price has kicked off 2022 on quite a run, with its stock soaring 45% year to date. The company completed a merger in the fourth quarter of 2021 (Coterra is the new name for the firms formerly known as Cabot Oil and Gas and Cimarex Energy) which is helping to drive efficiencies and keep costs down. As a result, it is generating plenty of cash. In the fourth quarter, the company generated $685 million in free cash flow (FCF). That's a more than tenfold increase from the prior quarter when the company generated $61 million in FCF.
And, as you may have guessed, Coterra is returning much of that cash to its investors. Management rose its quarterly dividend to $0.15 -- a 20% hike. This brings the company's current dividend yield (annual dividend payment/share price) to a respectable 2.12%. But, that's just a start for Coterra. Management also authorized a variable dividend of $0.41.
Variable dividends are all the rage right now in the energy sector. And Coterra is following suit, the company uses the same formula that many companies have adopted. It essentially returns a portion of what the company considers discretionary cash flow beyond the original dividend to investors.
Once variable payments are considered, Coterra's effective dividend yield jumps to about 10%. All told, Coterra returned 60% of its fourth-quarter FCF to shareholders.
But that's not all. For the first time in its history, Coterra recently announced a share repurchase program. The initial program authorizes management to repurchase up to $1.25 billion of outstanding shares -- roughly 7% of outstanding shares given current prices.
Image source: Getty Images.
What's in store for its business?
Estimates for FCF in 2022 are strong, with management guiding to $3.0 billion for the year -- more than triple 2021's total. What's more, Coterra's valuation looks good despite the big year-to-date return. Forward price to earnings is 5.88 and price to book is 1.57 -- both are similar to competitor Diamondback energy which has a forward price to earnings of 6.67 and price to book of 2.01 Its five-year price/earnings to growth ratio (PEG) of 0.14 is excellent, showing the company is cheap relative to its expected growth.
Moreover, the recent conflict between Ukraine and Russia has thrown the world market for natural gas into disarray. Russia, which supplies much of Europe's natural gas, has been hit with crippling sanctions. It seems likely -- at least in the near term -- that Europe will need an alternative to buying Russian gas. That could be very good news for producers like Coterra, whose gas can be liquified and shipped to Europe.
Investors who want to follow John Bogle's advice to "reap the huge rewards provided by dividends" should consider adding Coterra -- a company with an enormous dividend yield with the wind at its back.
