Oil and gas stocks have surged since the escalation in geo-political tensions between Russia and Ukraine. With oil discounting the war risk premium, Brent still trades above $100 per barrel.
Even with a significantly rally in energy stocks, there are names that are still worth considering for the long-term. Chevron Corporation (CVX) is possibly the top pick from among oil and gas exploration names.
Recent filings indicate that Warren Buffett’s Berkshire Hathaway has further increased its stake in Chevron stock. It’s currently the fourth-biggest equity holding for the conglomerate. Of course, that’s not the reason to talk about Chevron.
I am bullish on the company considering the asset base and long-term fundamentals.
Fundamentals
Chevron has strong fundamentals and that’s a key reason to be bullish. As of Q1 2022, the company reported a debt ratio of 16.7%, and net-debt ratio of 10.8%. An investment-grade balance sheet provides Chevron with high financial flexibility for investments.
It’s also worth noting that as of December 2021, Chevron reported cash and equivalents of $5.7 billion. Additionally, the company reported operating cash flow of $8.1 billion for Q1 2022. With an annualized OCF potential of $32 billion, the company’s fundamentals are likely to improve further.
Another reason to talk about the balance sheet is the company’s annual dividend of $5.68 per share. Given the free cash flow visibility, dividends are likely to sustain and potentially increase in the next few years.
Chevron has also guided for annual capital and exploratory expenditure of $15 billion to $17 billion through 2026. Considering the cash flows, external financing is not required to maintain this level of investment expenditure.
High Quality Asset Base
Chevron also has high-quality assets with a low break-even. To put things into perspective, the company reported positive operating cash flows even in 2020. This was the worst year for the energy sector in the last decade. Therefore, even if oil declines to $80 to $90 per barrel, Chevron will still be positioned to deliver healthy free cash flows.
Another point to note is that Chevron reported total 6P (proved, probable and possible) resources of 88 BBOE. Proved resources ensure steady production. Further, probable and possible resources can deliver sustained upside in long-term production visibility.
As a matter of fact, Chevron has reported a reserve replacement ratio of over 100% on average over the last few years. Given the financial flexibility, aggressive exploration investments will ensure upside in proved reserves.
The West is looking to reduce dependence on Russia for oil and gas. One way is to invest in renewable energy sources. The other way is to accelerate investments in oil and gas exploration. Chevron, with robust financial flexibility, is well positioned on both fronts.
Investment in Renewable Energy
In the next few years, Chevron has also set some ambitious targets for growth in renewable energy sources.
As an example, the company expects to boost capacity of renewable natural gas to 40,000 mmbtu per day by 2030. Chevron is also targeting 100,000 barrels per day of renewable fuel capacity by this period.
Recently, the company also announced a partnership with PT Pertamina to invest in low-carbon opportunities in Indonesia.
Risk Factors
The company’s balance sheet risk is low with a strong cash buffer and assets that can deliver positive cash flows, even if oil corrects to around $70 per barrel.
Chevron also has low execution risk considering the fact that production in assets have been steady. Additionally, the company has a robust reserve replacement ratio.
One potential risk for the company in the next few quarters is a recession. Rates hikes can translate into a slowdown or recession. This, in turn, would imply lower demand for oil.
The recession impact on oil prices will be partially offset by the geo-political risk premium. However, the best way to navigate this risk is to consider gradual exposure to CVX stock.
Wall Street’s Take
Turning to Wall Street, Chevron has a Moderate Buy consensus rating based on 15 Buys, eight Holds, and one Sell rating assigned in the past three months. The average Chevron price target of $171.38 implies 2.7% upside potential.
Concluding Views
Chevron stock has trended higher by almost 45% in the last six months. However, with Brent sustaining above $100 per barrel, the free cash flow visibility is robust. This is likely to ensure that the stock remains in an uptrend.
From a long-term perspective, the company has assets that can deliver stable production on a sustained basis. There is ample financial flexibility for organic and inorganic growth. Chevron also has ambitious targets for renewable energy investments.
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