Oil prices have been surprisingly lower than expected this year. Crude was recently in the low $70s, down double digits from the beginning of the year. That's a far cry from the calls that oil would return to the triple digits at some point in 2023, fueled by tightening supplies and rebounding demand.
While lower oil prices will affect the cash flows of all producers, some are in a better position to handle weaker pricing than others because of their low cost of supply. Because Chevron (CVX 0.37%) and ConocoPhillips (COP 0.10%) are among the lowest-cost producers, they can generate a tremendous amount of cash in the coming years even if oil prices head lower. That makes them great oil stocks to buy even if you're worried about even lower prices.
Well positioned to thrive at lower oil prices
Chevron has built an advantaged portfolio over the years by investing in low-cost of supply regions. That strategy enables the oil company to earn high returns on capital employed, positioning it to generate growing free cash flow even at lower crude prices. It also provides the company with lots of downside protection:
Image source: Chevron.
The oil giant stress-tested its business for an average oil price of $60 a barrel through 2027 (including an average of $50 from 2025 to 2027). At that pricing level, Chevron can grow its free cash flow by more than 10% annually, driven by high-return capital projects. That will supply it with enough cash to pay a growing dividend (Chevron has increased its payout for 36 straight years) and fund its capital program with room to spare. Meanwhile, its balance sheet capacity would allow it to repurchase shares at the low end of its target range. Chevron could retire 3% of its outstanding shares each year at that rate, given its current valuation.
Chevron also has ample upside to higher crude prices. They would enable it to generate more free cash that it can use to repurchase shares.
Chevron's financial strength also allows it to capitalize on opportunities to enhance its business. It took advantage of weaker oil prices this year to go on the offensive by agreeing to acquire PDC Energy (PDCE). It's paying $7.6 billion to boost its oil equivalent reserves by 10% for less than $7 per barrel. That deal alone will add $1 billion to its annual free cash flow starting next year, assuming $70 oil. Chevron has an excellent track record of buying other oil companies during periods of lower oil prices, strengthening its ability to capitalize on the eventual recovery.
Cashing in at lower crude prices
ConocoPhillips has also built a price-advantaged portfolio. The company has made $25 billion in transactions since 2016 to improve its portfolio. It has sold high-cost of supply assets and replaced them with lower-cost assets. These moves have lowered its supply cost from over $40 a barrel to $32 per barrel.
The company's portfolio high-grading strategy positions it to generate a massive amount of free cash flow at a relatively modest oil price point in the future:
Image source: ConocoPhillips.
As that slide showcases, ConocoPhillips can grow its free cash flow at an 11% compound annual rate over the next decade, assuming oil averages $60 a barrel. That will supply it with enough cash to cover its capital program, deliver on its commitment to return at least 30% of its annual cash flow from operations to investors via dividends and share repurchases, and make additional distributions to investors (incremental repurchases and its variable return of cash program). The company estimates it can return over 90% of its current market cap to shareholders over the next decade through its three-tiered capital return program at a $60 average oil price point.
Primed to prosper at lower oil prices
Chevron and ConocoPhillips have repositioned their portfolios over the years to thrive at lower oil prices. They can generate significant free cash flow at $60 crude oil, giving them the money to invest in growing their businesses while returning substantial cash to shareholders. That combination of free cash flow growth and rising shareholder returns should enable these oil stocks to generate attractive total returns for their investors even if oil prices continue declining.
