ConocoPhillips: Potential for higher future returns for shareholders (NYSE: COP)
After sharply cutting its once-great dividends at the start of 2016, ConocoPhillips (NYSE: COP) has opted for a variable shareholder compensation policy that changes according to operating conditions. Following the recent rising stock prices amid soaring oil and gas prices, this sees their current dividend yield at a low 2.34% but looking ahead, one way or another, Higher returns for shareholders are ahead.
Executive summary and ratings
Since many readers are likely short on time, the table below provides a very brief summary and scores for the main criteria assessed. This Google document provides a list of all my equivalent ratings as well as more information about my rating system. The following section provides a detailed analysis for readers wishing to delve deeper into their situation.
*Instead of simply assessing dividend coverage through earnings per share cash flow, I prefer to use free cash flow as it provides the strictest criteria and also best captures the true impact on their financial situation.
After the severe downturn in 2020 that weighed on their cash performance, high oil and gas prices in 2021 saw a recovery that boosted their operating cash flow to $16.996 billion, well into the above their 2020 bottom line of just $4.802 billion. free cash flow to reach a whopping $11.672 billion in 2021, which eclipsed any recent year since at least 2018. Unsurprisingly, this easily funded their $2.359 billion in dividend payouts and an additional $3.623 billion in buyouts. shares, which generated a total shareholder return of $5.982 billion that looks set to increase in 2022 thanks to these oil prices very high and to the indications which accompany them, as the table included below is displayed.
Although the volatility of oil and gas prices prevents management from providing earnings forecasts, they can still provide production forecasts, which for 2022 are expected to reach a very impressive 1.8 mmboe/d and therefore 17.88% more year-over-year from their production of 1.527 mmboe/d in 2021, in line with the Q4 2021 earnings announcement. their production and therefore if oil and gas prices were to be on average the same as in 2021, their operating cash flow should increase by nearly 18% year-over-year to approximately 20 billion in 2022, seeing shareholder returns of $6 billion and more given the 30% minimum payout ratio of their variable shareholder return policy. While positive, there are prospects for even higher returns to shareholders in 2022 and beyond, given these very high oil prices and their sensitivities, as shown in the slide below.
It can be seen that for every dollar per barrel of Brent oil price increases, their operating cash flow increases by $85 million, with the Western Texas Intermediate and Western Canadian Select grades also seeing increases of $120 million. and $27.5 million respectively. Following the much-discussed Russian-Ukrainian war which further tightened an already tight oil market, Brent prices, averaging around $100 a barrel, now appear to be the benchmark outlook in 2022, representing an increase around $30 a barrel from their 2021 average, according to EIA data.
Given that most grades of oil tend to move in tandem, that means oil prices averaging $30 a barrel higher than 2021 should see their operating cash flow increase by around $7 billion. dollars, totaling approximately $27 billion. When subtracting their capital expenditure forecast of $7.2 billion in 2022, that would leave a huge estimated free cash flow of around $20 billion. Compared to their current market capitalization of around $130 billion, this equates to a very high free cash flow yield of just over 15%. While gas prices have also risen in 2022 and stand to benefit as Europe seeks supplies outside of Russia, their cash flow performance is more impacted by oil prices and these were therefore assumed to remain at their 2021 levels to provide a margin of safety.
Going back to their shareholder returns, their minimum operating cash flow payout ratio of 30% would result in record shareholder returns of approximately $8 billion, which would provide a high return for shareholders of just over 6% on their current market capitalization. They also expect approximately $1 billion in incremental shareholder return through share buybacks following the Cenovus Energy (CVE) stock sale, according to slide seven of their investor presentation. of December 2021, although in my eyes the attraction is minimal since it arises from the sale of a property. If they were to stick to their minimum shareholder return, that would also leave around $12 billion of free cash flow retained, although given the state of their financial position, they’ll likely choose to pay more. only the minimum or, alternatively, future years will. see relatively higher returns to shareholders as there would be virtually no opportunity for further deleveraging.
Despite their free cash flow easily exceeding their shareholder returns, their net debt still increased by $5.691 billion or 64.90% in 2021 to end the year at $14.46 billion from $8.769 billion. dollars where it ended in 2020. This stems from a year of acquisitions which saw them start 2021 by acquiring Concho Resources in January before ending the year with a large shale acquisition from Shell (SHEL). Going forward, their variable shareholder return policy ensures that net debt trends decline and, although the magnitude depends on whether or not they choose minimum shareholder returns, if so, their flow free cash of about $12 billion would wipe out almost their entire net worth. debt.
Even though their net debt has increased significantly in 2021, their solid financial performance has allowed their debt to remain very low with a net debt/EBITDA ratio of 0.73 and a net debt/operating cash flow ratio of 0, 85, both below the 1.00 threshold for the very low territory. Unsurprisingly, their interest coverage is indeed out of the ordinary at 14.32 and so they have no problem repaying their debt. While their indebtedness would increase if they were faced with a sudden downturn since their net debt is significantly above recent historical levels, fortunately this does not seem likely in the foreseeable future and therefore allows time for their net debt to be reduced.
It was positive but not too surprising to see strong liquidity accompanying their very low leverage with their current and cash ratios at 1.34 and 0.46 respectively. Looking ahead, their immense free cash flow and variable shareholder return policy should hold up and despite their debt ballooning following their acquisition spree in 2021, fortunately their large operational size means that ‘they should maintain easy access to debt markets to refinance maturities if necessary, even if central banks tighten their monetary policy.
Despite the sad loss of life in Eastern Europe, they face a tidal wave of free cash flow to distribute among shareholder returns and keep for deleveraging. If they choose to favor the former, their shareholders could see between a high return of 6% and a very high return to shareholders of around 17% on dividends and share buybacks. Alternatively, if they choose to favor the latter, it would see most of their net debt eliminated and therefore mean that relatively higher returns to shareholders are essentially guaranteed in the years to come and therefore in one way or another another, higher shareholder returns are coming and therefore I believe a buy rating is appropriate.
Notes: Unless otherwise stated, all figures in this article are taken from ConocoPhillips’ SEC Filingsall calculated figures were performed by the author.