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CNOOC: Undervalued With Strong Growth Prospects

June 23, 2014 | About:
Faisal Humayun

Faisal Humayun

3 followers

CNOOC (CEO) is on a high growth path along with a strong dividend yield of 4.1%. This article discusses why investors need to look beyond the corruption issues with some Chinese companies and own this high growth stock.

High Intensity Exploration

CNOOC has been investing significantly in new exploration to boost their reserves and these investments have yielded sweet results for the company. In 2013, CNOOC had 18 new discoveries and this boosted the reserve replacement ratio by 327%.

On a relative basis, this looks very attractive as peers like Anadarko Petroleum (APC) had a reserve replacement ratio of 182% and Occidental Petroleum (OXY) had a reserve replacement ratio of 143%.

The high reserve replacement ratio has helped the company boost its reserve life by 10.8 years and this is likely to continue in 2014 with CNOOC expecting to increase the reserve replacement ratio by over 100%. Therefore, the bullish trend, in terms of reserve growth, is likely to continue and should provide momentum to the stock.

Robust Production And Outlook

Along with an increase in reserves, CNOOC has also been boosting its production. For 2013, CNOOC reported production of 411.7 mmboe, which was 20.2% higher on a year-on-year basis. The production growth was achieved with 7 new projects coming on stream.

For 2014, the company expects production to be in the range of 422mmboe-435mmboe. This is very likely with CNOOC planning 7-10 projects to come on stream in 2014 as well.

The positive trend is already evident from the first quarter of 2014 with CNOOC reporting net production of 108.1mmboe, which 15.5% higher on a year-on-year basis and represents the higher end of the production guidance given by the company.

Further, there were 5 new discoveries and 8 successful well appraisals during the quarter and it is very likely that the reserve replacement ratio target for the year is also met comfortably.

High Financial Flexibility

In order to achieve a high production growth along with a robust reserve replacement, CNOOC needs to incur significant capital expenditure. After incurring a capital expenditure of $14.5 billion in 2013, CNOOC expects to incur a capital expenditure of nearly $17 billion for 2014.

For such high level of investments, a strong financial position is critical. CNOOC had a debt to capitalization of 38.7% as of 2013 and this gives the company a high level of financial flexibility to leverage for growth.

In addition, CNOOC also had a cash and short term investments equivalent of $15 billion as of December 2013, giving the company ample liquidity cushion. Therefore, financing the capital expenditure plan will not be an issue in the foreseeable future. Increased cash flow from new projects will also aid capital expenditure financing in the future. For the year ended December 2013, CNOOC reported an operating cash flow of $18.3 billion, which was sufficient to cover for the year’s capital expenditure.

Attractive Valuations

Amidst all the positives, the stock is trading at an attractive valuation and this makes it a good investment option to consider at a time when oil prices are likely to remain at higher levels.

CNOOC is currently trading at an EV/EBITDA valuation of 4.09 as compared to a premium EV/EBITDA valuation for peers such as Anadarko Petroleum, which is trading at an EV/EBITDA of 7.01 and Occidental Petroleum, which is trading at an EV/EBITDA of 6.06.

CNOOC can therefore be considered as a value buy with strong growth prospects. In addition to the valuation, CNOOC also offers a dividend yield of 4.1%, which is attractive as compared to Anadarko’s dividend yield of 1% and Occidental’s dividend yield of 2.8%.

Conclusion

For value investors, CNOOC is a good investment option for the long-term. The company has aggressive growth plans and this should translate into strong cash flow generation in the foreseeable future.

Further, the industry dynamics also support investment in the stock and I expect oil prices to remain well above $100 per barrel with increasing geo-political tensions in the Middle-East. CNOOC is likely to be a value creator in this scenario.

About the author:

Faisal Humayun
Senior Research Analyst with experience in the field of equity research, credit research, financial modelling and economic research

Rating: 5.0/5 (1 vote)

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