Updated on March 17th, 2020 by Bob Ciura
In general, energy stocks are highly regarded among income investors for their high dividends. This makes the sector a favorite of income investors looking for potential high yield stocks.
There are many energy stocks that fall on our list of high-dividend stocks. You can download your full list of all 300+ stocks with 5%+ yields, along with financial metrics like dividend yield and payout ratios, by clicking on the link below:
The recent and massive decline in oil prices has wreaked havoc among the global oil supermajors. The recent action by Saudi Arabia to increase production has exacerbated a global supply glut of oil. Making matters worse, the spreading coronavirus threatens to cause a global recession, which would result in a significant decline in oil demand.
Taken together, these forces have caused huge declines in the share prices of many oil companies in recent weeks. Because of this, investors should be particularly careful in their choices. Investors should also expect continued volatility in oil stocks, and only investors with a high tolerance for risk should consider buying energy stocks.
That said, for investors with a long-term focus and a high level of risk tolerance, multiple energy stocks appear to be undervalued due to their massive declines in share price. This has also resulted in elevated dividend yields across the energy sector. This article will discuss the 6 biggest global oil supermajors that we believe are attractive for long-term income investors.
Table of Contents
The terms “Big Oil” and “super-majors” are interchangable, and refer to the 6 largest oil companies that aren’t state owned. The 6 Big Oil supermajors are:
In this article, we will rank the six oil supermajors based on their expected 5-year returns. We calculate expected returns based on the combination of valuation changes, expected earnings growth, and dividend yields. The stocks are listed in order of annual expected return, from lowest to highest.
Supermajor Big Oil Stock #6: Chevron (CVX)
- Expected Returns: 22.8%
Chevron is the second-largest U.S.-based oil company, behind Exxon Mobil. Chevron and Exxon are both on the exclusive list of Dividend Aristocrats, a group of stocks in the S&P 500 Index that have each raised their dividends for 25+ consecutive years.
There are currently 64 Dividend Aristocrats. You can download an Excel spreadsheet of all 64 (with metrics that matter) by clicking the link below:
Last year, Chevron generated 78% of its earnings from its upstream segment. In late January, Chevron reported (1/31/20) financial results for the fourth quarter of fiscal 2019. In the quarter, production remained flat over the prior year’s quarter but in the full year it grew 4% thanks to strong growth in the Permian Basin.
Source: Investor Presentation
However, in the quarter, the average realized price of oil and gas fell. In addition, Chevron incurred a $9.2 billion net asset write-off, as the value of its North American natural gas assets has slumped.
As a result, Chevron switched from a profit of $1.95 per share in prior year’s quarter to a loss of -$3.51 per share. Even its adjusted earnings-per-share of $1.39 fell -29% due to lower commodity prices. As this decrease in the bottom line was caused by a modest ~10% decrease in the average realized price of oil and gas, the high sensitivity of the results of Chevron to the underlying commodity prices was confirmed once again.
Chevron grew its output by 5% in 2017, 7% in 2018 and 4% in 2019 and expects to grow its output by 3%-4% per year until 2024. We believe that the sustained growth in the Permian Basin and in Australia will help the oil major meet its production guidance. It is remarkable that Chevron has more than doubled the value of its assets in Permian in the last two years, thanks to new discoveries and technological advances.
Chevron now invests most of its funds on projects that begin delivering cash flows within two years. We continue to expect the company to grow its earnings-per-share by about 8% per year on average over the next five years.
Chevron has above-average dividend safety considering its industry. As a commodity producer, Chevron is vulnerable to any downturn in the price of oil, particularly given that it is the most leveraged oil major to the oil price. Fortunately, the company is in the positive phase of its cycle now.
Chevron stock trades for a 2020 price-to-earnings ratio of 11.2x, based on expected EPS of $6.20. Our fair value estimate is a P/E of 15.8x. The company also recently raised its dividend by 8.4% and has increased its dividend for 33 consecutive years.
With a 7.4% dividend yield, future expected EPS growth of 8% per year, and a positive 7.1% annual contribution from an expanding P/E multiple, we expect total annual returns of 22.8% per year through 2025.
Supermajor Big Oil Stock #5: Exxon Mobil (XOM)
- Expected Returns: 27.7%
Exxon Mobil is an integrated super-major, with operations across the oil and gas industry. In 2019, the oil major generated over 80% of its earnings from its upstream segment, with the remainder from its downstream (mostly refining) segment and its chemicals segment.
In late January, Exxon reported (1/31/20) financial results for the fourth quarter of 2019. Production remained flat over last year’s quarter, as a 4% increase in liquids was offset by a 5% decrease in gas. Excluding non-recurring gains of $3.9 billion, which resulted from asset sales, adjusted earnings-per-share plunged 71%, from $1.41 to $0.41, primarily due to depressed margins in the downstream and chemical segments.
Source: Earnings Slides
We remain positive regarding Exxon’s long-term growth prospects. Global demand for oil and gas continues to rise, which provides a strong fundamental tailwind for the company’s long-term future. According to a recent company presentation, new supply of 550 billion barrels of oil and 2,100 trillion cubic feet of natural gas are required through 2040 to meet projected global demand. In preparation, the oil major has greatly increased its capital expenses in order to grow its production from 4.0 to 5.0 million barrels per day by 2025.
The Permian Basin will be a major growth driver, as the oil giant has about 10 billion barrels of oil equivalent in the area and expects to reach production of more than 1.0 million barrels per day in the area by 2024. Guyana, one of the most exciting growth projects in the energy sector, will be another major growth driver. In 2019, Exxon Mobil made 6 major deep-water discoveries in Guyana and Cyprus. In Guyana, Exxon Mobil has started Liza Phase I ahead of schedule. Guyana’s total recoverable resources are estimated at over 8 billion oil equivalent barrels.
Exxon Mobil’s earnings are volatile, due to the cyclical nature of the oil and gas industry. For 2020, we expect adjusted earnings-per-share of $3.50. The stock trades for a P/E ratio of 9.9. Our fair value estimate is a P/E of 13, as investor sentiment has eroded while the company turns itself around. Expansion of the P/E multiple could boost annual returns by 5.6% per year.
However, because of Exxon Mobil’s depressed earnings, we expect a snap-back with 12% annual expected earnings-per-share growth over the next five years. Including the 10.1% dividend yield, we expect total annual returns just above 27.7% per year over the next five years.
Supermajor Big Oil Stock #4: Eni (E)
- Expected Returns: 28.7%
Eni is a major oil and gas producer based in Italy. It has exploration activity in more than 40 countries. It operates in three segments: exploration & production, gas & power, and refining & marketing. Its upstream segment is by far the largest. In 2018 and 2019, this segment generated 92% and 93% of total operating income, respectively. This is a major difference between Eni and the other energy super majors; Eni’s business is much less diversified.
In late February, Eni reported (2/28/20) financial results for the fourth quarter of fiscal 2019. The company grew its production 3% over the prior year’s quarter to 1.92 million barrels per day, a record fourth-quarter level, thanks to new field start-ups and ramp-ups. However, the average price of Brent fell -4% and European gas prices plunged -42% over the prior year’s quarter. Consequently, adjusted earnings-per-share fell -63%, from €0.40 to €0.15.
Source: Investor Presentation
On the positive side, Eni achieved a record average annual production of 1.87 million barrels per day, with a reserve replacement ratio of 117%, which bodes well for future growth prospects. However, the poor results in the last three quarters are a stern reminder of the high sensitivity of Eni’s performance to oil and gas prices.
On the other hand, Eni expects to grow its output by approximately 3.5% per year on average until 2025. A major growth driver will be the Zohr field in Egypt, the largest gas field in the Mediterranean, which holds about 30 trillion cubic feet of gas. Eni has a 50% stake in this field. Given the suppressed earnings expected this year due to the impact of the coronavirus, we expect Eni to grow its earnings-per-share by 6.0% per year on average over the next five years.
Eni has about 7.2 billion barrels of oil equivalent in proved reserves, which are sufficient for 10.4 years of production given the current production rate of the company. The duration of its reserves is lower than the ~12-year duration of the reserves of certain peers.
In addition, Eni has a breakeven point of about $55 per barrel. This is much higher than the breakeven point of most oil majors, which have cut their expenses and reshaped their portfolios more drastically than Eni. For perspective, BP has already driven its breakeven point below $50 and aims to reduce it to $35-$40 by 2021. Whenever the next downturn in oil prices occurs, Eni’s dividend will arguably not be as safe as the dividends of its peers.
Eni stock trades for a 2020 P/E ratio of 7.9, below our fair value estimate of 12. The combination of multiple expansion, 6% annual EPS growth, and the 13.1% dividend yield results in total expected returns of 28.7% per year over the next five years.
Supermajor Big Oil Stock #3: BP (BP)
- Expected Returns: 32.9%
BP has gone through extreme challenges since its major accident in 2010. It has paid $67 billion for this accident so far. This amount is almost equal to all its earnings since. Even in 2019, nine years after the accident, BP paid $2.4 billion (24% of its earnings) for it. The company expects to pay less than $1.0 billion for that accident this year.
It has greatly improved its portfolio via the addition of low-cost reserves and has markedly increased its production in recent years. In 2019, BP grew its production 3.8%, which was decent but less than the previous guidance (5%). Due to lower realized prices of oil and gas, annual earnings fell -21%, from $12.7 billion in 2018 to $10.0 billion. BP announced 7 new discoveries in 2019.
Source: Investor Presentation
However, the company posted a disappointing organic reserve replacement ratio of 67% and an actual ratio of 57%, which includes asset sales. Moreover, management now expects production to fall in 2020 vs. 2019 due to declines in low-margin gas basins. This is in sharp contrast to a previous guidance for 5% annual production growth over the next three years.
Since 2016, it has brought 23 major projects online and has another 12 major projects until the end of 2021. Thanks to the ramp-up in projects, the company expects to add 0.9 million barrels per day to its production base from 2018 until the end of 2021. The new reserves have 35% greater cash margins and 20% lower development cost than base reserves.
As a result, management expects free cash flow to more than double, from $6.5 billion in 2018 to $14-$15 billion in 2021. Moreover, as BP drastically reduced its operating expenses in the recent downturn and now invests only in projects that are profitable below $40 per barrel, it has reduced its breakeven point to $50 and expects to further reduce it to $35-$40 by 2021.
BP has a current dividend yield of 13.4%. With an expected dividend payout ratio of approximately 81% for 2020, the dividend appears sustainable for now, although a significant decline in earnings could jeopardize the dividend payout.
In addition, the stock appears undervalued, with a P/E ratio of 6.1 compared with our fair value estimate of 12. The combination of 5% expected EPS growth, dividends, and multiple expansion results in expected annual returns of 32.9% per year through 2025.
Supermajor Big Oil Stock #2: Total (TOT)
- Expected Returns: 33.7%
Total is the fourth-largest oil and gas company in the world based on market capitalization. Like the other oil and gas super majors, it is a fully integrated company. Total operates in four segments: upstream, downstream (mostly refining), marketing & services and gas, and renewables & power.
In early February, Total reported (2/6/20) financial results for the fourth quarter of fiscal 2019. Thanks to the start-up and ramp-up of major growth projects, the company grew its production by 8% over last year’s quarter. On the other hand, the average realized price of liquids fell -7% and gas prices in Europe and Asia plunged about -40% over last year’s quarter. Nevertheless, Total’s earnings-per-share rose 1% thanks to strong performance in LNG and output growth.
Source: Investor Presentation
For the year, thanks to strong contribution from start-ups and ramp-ups, Total grew its output 9% over the prior year. This was by far the highest production growth rate among oil majors. Moreover, the 1% increase in the earnings-per-share of Total amid suppressed commodity prices proved the unparalleled resilience of this oil major.
Furthermore, thanks to a $1.0 billion increase in cash flows that have resulted from strong LNG production growth, Total’s organic pre-dividend breakeven remains below $25 per barrel while its organic post-dividend breakeven remains below $50 per barrel.
We expect 2% annual EPS growth through 2025. The company has returned to a solid growth trajectory. It grew its output 8% in 2018 and 9% in 2019. The company expects production growth higher than 2% in 2020 but we expect significant growth in earnings-per-share, as we expect more favorable commodity prices than last year’s suppressed levels. Moreover, Total will continue growing its LNG business, which provided a strong buffer in last year’s adverse commodity environment.
In addition to 2% expected EPS growth, Total has a current yield of 11.6%. The stock also appears to be undervalued, with a P/E ratio of 4.8 compared with our fair value estimate of 12. Expansion of the P/E ratio could fuel 20.1% annual returns through 2025. Combined with dividends and EPS growth, we expect 33.7% annual returns through 2025.
Supermajor Big Oil Stock #1: Royal Dutch Shell (RDS.A, RDS.B)
- Expected Returns: 39.8%
Royal Dutch Shell is an oil and gas supermajor, the second largest behind Exxon Mobil in terms of annual production volumes. Shell is currently valued at $206 billion, also ranking second among oil companies behind Exxon Mobil by that measure. Shell is headquartered in London (UK) as well as in Den Haag (Netherlands). There are two types of shares of the company; RDS.A shares, listed in the Netherlands, and RDS.B shares, listed in the United Kingdom.
In late January, Royal Dutch Shell reported (1/30/20) financial results for the fourth quarter of fiscal 2019. Just like in the last several quarters, total production remained essentially flat, as field ramp-ups in the Permian and the Gulf of Mexico were offset by asset sales and natural decline of oil fields.
Source: Investor Presentation
Adjusted earnings fell 48%, from $5.7 billion to $2.9 billion, due to lower oil, gas and LNG prices as well as weaker refining and chemical margins. On the bright side, despite a -33% decrease in annual free cash flows, from $39.4 billion to $26.4 billion, free cash flows were still sufficient to cover the generous dividend and share repurchases of the company.
We expect 4% annual EPS growth through 2025, both through organic growth as well as acquisitions. Shell acquired BG Group, a deep-water oil and natural gas focused upstream company, in a $53 billion deal. Shell grew its output considerably thanks to that acquisition, but its output has remained flat in the last two years. Management expects new projects to contribute 0.25 million barrels per day this year and 0.3 million barrels per day after 2021.
That output is likely to be offset by the natural decline of existing oil fields and as a result, we do not expect Shell to grow its output meaningfully in the upcoming years. This is in sharp contrast to the other oil majors, such as Chevron, BP and Total, which have been growing their production at a fast clip in recent years.
The stagnation has resulted from the natural decline of its fields and its extensive asset divestments, which helped fund the expensive acquisition. These two factors have also caused the duration of the reserves of Shell to fall for six years in a row and reach 7.9 years, which is much shorter than the average duration of the peer group (~11 years).
On the other hand, the current buyback program of Shell will reduce its share count by ~10% over the next three years and will thus provide earnings-per-share growth. Moreover, during the downturn of the energy sector, Shell drastically reduced its operating expenses and invested in high-quality, low-cost reserves, which have rendered the company more profitable than in the past at a given oil price. Shell posted record organic free cash flows of $31 billion in 2018 even though Brent was about -40% lower than it was before the downturn.
We expect 4% annual EPS growth through 2025. In addition, Shell stock trades for a P/E ratio of 4.8, compared with our fair value estimate of 12. Lastly, the stock has a very high dividend yield of 15.7%. With such a high dividend yield, sustainability is always a concern. The payout ratio of 75% for 2020 indicates a secure dividend, but a further collapse in earnings could endanger the dividend. Overall, we expect annual returns of nearly 40% per year, but there is a high level of risk to this forecast.
The recent plunge in oil prices, combined with fears of a coming recession, have caused oil stocks to decline significantly in recent weeks. As a result, this has compressed valuations and elevated dividend yields across the energy sector.
Of course, there is no guarantee the high levels of expected returns will materialize. A prolonged recession could derail these companies’ growth prospects, and could result in dividend cuts. As a result, only investors with a long-term focus and a high tolerance for risk should consider investing in oil stocks.
Meanwhile, Exxon Mobil is arguably the most conservatively run company, with the strongest balance sheet of the group. It has the highest credit rating of the oil majors, and has increased its dividend each year for over 30 years (as has Chevron).
On the other hand, Royal Dutch Shell seems to have the potential to offer the highest 5-year return. It possesses the strongest combination of an undervalued share price, future EPS growth potential, and a high dividend yield.
All of the Big Oil stocks on this list are expected to generate attractive returns to shareholders through 2025. This makes all six potentially attractive picks for investors, particularly those looking for income and value.