The prolonged spell of crude price weakness seems to be over as the energy market is ultimately witnessing improvement in oil prices.
Looking back, the major oil producing nations were trying to capitalize on the opportunities that opened up during mid-2014, when oil was trading above $100 per barrel. These countries started to produce more and more oil as the commodity could be sold at higher prices. In fact, the last two and half years saw OPEC, Russia as well as U.S shale players vying for production share and increasing output substantially.
However, matters took a turn for the worse when a supply glut resulted in crude prices plunging to the rock bottom. Last February, prices nosedived to a low of $26 per barrel, thanks to the boom in shale oil production and rising output from OPEC. The downturn prompted several analysts to make projections about a potential bottom. While some suggested prices might drop as low as $20 a barrel, other came up with estimates of as low as $10 per barrel.
However, the historic production cut agreement by OPEC and non-OPEC producers and decreasing investments (in existing and new wells) have seen oil prices more than double from the Feb 2016 lows to above $50 per barrel level.
Can Integrated Players Thrive?
The upstream businesses for integrated energy companies are enjoying a dream run after a prolonged period of downturn. It is high time for oil majors to lower their huge debt burden by generating earnings out of core business. So far, the companies were selling their income generating assets and opting for innumerable job cuts to survive the tough operating environment.
However, the upstream players are now gathering to the oil patches, as evidenced by more and more drilling rigs on U.S. plays. Increase in explorations and production activities will raise the need for new storage and transporting assets. Hence, the midstream business for integrated companies might also improve.
Among the major integrated firms, BP plc BP and Royal Dutch Shell plc RDS.A deserve particular mention. With their massive market capitalizations of $124.5 billion and $253.3 billion, respectively, these companies dominate and define the Oil & Gas-International Integrated industry. The broader ‘Oil and Energy’ sector, which includes the industry, is also positively placed at 2 out of a total 16 sectors we cover (top 13%).
London-based BP is one of the largest integrated energy firms in the world with a strong and diversified portfolio of development projects that offer attractive long-term opportunities.
Beat Earnings Estimates: The company achieved major expense reductions through massive job cuts and expects its cost structure to improve further. BP has also been lowering its capital spending to survive in the persistently unfavorable business environment of weak commodity prices. Supported by these measures, the energy giant beat the Zacks Consensus Estimate in two of the last four quarters with an average earnings beat of 33.27%. The company’s dividend yield of 6.4% is also much better than the market average.
Outperformed the Broader Industry: BP’s strong fundamentals are reflected in its recent price chart. During the last six months, the company gained almost 3% compared with 2.2% improvement for the Zacks categorized Oil & Gas-International Integrated industry.
Debt Load: As of Sep 30, 2016, BP had long-term debt load of $53,308 million.
Oil Spill Remains an Overhang: The oil spill incident of 2010 in the BP-operated Macondo Prospect continues to affect the company. Although BP has cleared the huge litigation expenses related to the spill, it had to divest some of its best operating properties. The asset sales might hinder BP’s future cash generating opportunities going forward. The lost reserves/production from the group's asset sales cannot be ignored either.
Russian Sanctions is a Concern: BP has 20% ownership in Rosneft – an integrated oil company that is primarily owned by the Government of Russia. With Russian sanctions following geo-political issues in Ukraine, BP’s operations are likely to be hampered as the country is the second-largest contributor of the output of the company.
The combination of all these factors are reflected in the company’s current Zacks Rank #3 (Hold), implying that the stock will perform in line with the broader U.S. equity market over the next one to three months.
Shell, which is headquartered in Hague, the Netherlands, is one of the largest integrated oil and gas companies in the world. It explores for and extracts crude oil, natural gas and natural gas liquids. It has interests in chemicals as well as power generation and renewable energy.
Missed Earnings Estimates: The company lagged the Zacks Consensus Estimate in three of the last four quarters with an average earnings miss of 10.01%.
BG Acquisition Raised Debt Load Considerably: Following Shell's $50 billion mega acquisition of BG Group plc − a leading upstream energy player in the U.K., the company saw a substantial rise in net debt and reduction of liquidity. In fact, the oil major’s total long-term debt of $86,637 million as of Sep 30, 2016 increased almost 64% year over year. Hence, huge debt load remains a serious threat for Shell in spite of its improving business scenario.
Underperformed the Broader Industry: Shell – with a dividend yield of 5.9% – shows considerable price weaknesses in its recent price chart. Over the last six months, shares of the company fell almost 1%.
As a result, Shell currently carries a Zacks Rank #4 (Sell), implying that the stock will underperform the broader U.S. equity market over the next one to three months.
Our comparative analysis clearly indicates that Shell has significantly more debt load than BP. The dividend yield of Shell is also lower than BP, which has better earnings surprise history. Moreover, BP enjoys a favorable stock price chart and Zacks Rank.
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