Just two years ago, the onset of the pandemic slashed the share prices of many oil and gas producers and the idea of parking cash in a U.S. E&P seemed to make as much sense as leaving your Porsche on a midtown street with the keys in it and the motor running. But times — and commodity prices — have changed, and hydrocarbon producers have transformed themselves into cash-flow-generating machines that attract the sagest investors. Want proof? Warren Buffett’s Berkshire Hathaway recently purchased another 10.4 million shares of Occidental Petroleum (Oxy) for over $500 million, bringing its stake in the company to a substantial 16.4%. In today's RBN blog, we detail how the major U.S. E&Ps are allocating their cash flow to keep investors happy.
What a difference two years makes! In our July 2020 blog Stayin’ Alive, we discussed Oxy’s chances of recovering from the massive $36.5 billion debt it had accumulated in its ill-timed $58 billion acquisition of Anadarko Petroleum just before oil prices started to plummet in mid-2019. With its investment rating reduced from investment grade to junk, the company slashed its quarterly dividend from $0.79/share to a token $0.01, cut capital spending, and launched a major divestiture program. But soaring commodity prices have subsequently bailed out Oxy and the industry. Embracing fiscal discipline and eschewing production growth in favor of cash generation, E&Ps are transforming into significant yield vehicles — a turnaround that's led to a fivefold increase in the S&P E&P stock index. Producers who survived the pandemic with strong balance sheets, such as Pioneer Natural Resources, Diamondback Energy, Devon Energy, and EOG Resources, are already providing 10%-plus annual returns through a combination of regular and variable dividends and share repurchases. Others, like Oxy, have channeled growing cash flows to meet debt-reduction targets as they transition to significant shareholder returns.
Buffett, the 91-year-old Sage of Omaha, became involved with Oxy in mid-2019 when he committed $10 billion to help finance the Anadarko purchase in exchange for a hefty package of preferred stock and high-interest-rate debt that virtually insured his repayment no matter what Oxy’s fate. But it has been Oxy’s performance since mid-2020 that has triggered the substantial additional investment by Berkshire Hathaway. Oxy has repaid more than $11 billion in debt, including $3.3 billion in the first quarter of 2022. With a reinvestment rate of just 26% of CFOA (cash flow from operating activities), Oxy has built a $1.9 billion cash balance that allowed it to increase its quarterly dividend from $0.01 to $0.13 and authorize a $3 billion share-repurchase program. With its massive cash flow, the company is on target to meet its short-term goal of reducing debt by $5 billion to $20 billion by year-end and has in sight a further debt reduction into the “high teens” that would mark its return to investment-grade status. Industry analysts have speculated that this milestone could prompt an offer for the entire company by Buffett’s Berkshire.
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