Chevron (CVX, Financial) is the third-largest publicly traded integrated oil and gas business in the world with a market cap of nearly $240 billion, behind only Royal Dutch Shell (RDS) and ExxonMobil (XOM). The company has a long corporate history that shows its growth over the last 145 years.
Corporate history
Chevron can trace its history back to 1879 when the Pacific Coast Oil Company was incorporated. The company could not compete with Standard Oil, and was acquired by Standard Oil in 1900. In 1911, Standard Oil was forced to split up by the Supreme Court. The resulting divestitures created Standard Oil of California (among other oil companies). Standard Oil of California changed its name to Socal (Standard Oil of California). In 1977 Socal merged six domestic oil and gas businesses into one and took the name Chevron. The company has kept the Chevron name for the last 37 years.
Comparison to other businesses with long dividend histories
Chevron has a long history of rising dividend payments. The company will be compared to other businesses that have rewarded shareholders with steady or increasing dividends for 25+ years without a reduction, using the 5 buy rules from the 8 Rules of Dividend Investing.
Consecutive Years of Dividend Increases
Chevron has paid constant or increasing dividends for 26 consecutive years without a reduction. The company’s ability to pay rising dividends through changing economic and competitive landscapes speaks to Chevron’s stability and strong earnings power from its upstream division.
Why it matters: The Dividend Aristocrats (stocks with 25-plus years of rising dividends) have outperformed the S&P 500 over the last 10 years by 2.88 percentage points per year.
Source: S&P 500 Dividend Aristocrats Factsheet
Dividend Yield
Chevron has a dividend yield of about 3.4%. The company has the 29th-highest dividend yield out of 132 businesses with 25-plus years of dividend payments without a reduction.
Why it Matters: Stocks with higher dividend yields have historically outperformed stocks with lower dividend yields. The highest-yielding quintile of stocks outperformed the lowest-yielding quintile by 1.76 percentage points per year from 1928 to 2013.
Source: Dividends: A Review of Historical Returns
Payout Ratio
Chevron has a payout ratio of 38.50% which is the 57th-lowest out of 132 businesses with 25-plus years of dividend payments without a reduction. Chevron has a fairly low payout ratio, giving the business ample room to increase dividends faster than overall company growth over the next several years.
Why it Matters: High-yield, low-payout ratio stocks outperformed high-yield, high-payout ratio stocks by 8.2 percentage points per year from 1990 to 2006.
Source: High Yield, Low Payout by Barefoot, Patel, & Yao, page 3
Long-Term Growth Rate
Chevron has only managed to grow revenue per share by under 4% over the last decade. The company has the 88th-highest growth rate out of 132 businesses with 25-plus years of dividend payments without a reduction. Chevron’s future growth prospects appear significantly more favorable than its low historical growth rate would indicate.
Why it Matters: Growing dividend stocks have outperformed stocks with unchanging dividends by 2.4 percentage points per year from 1972 to 2013.
Source: Rising Dividends Fund, Oppenheimer, page 4
Long-Term Volatility
Chevron has a long-term standard deviation of about 27%, which is the 58th lowest out of 132 businesses with 25-plus years of dividend payments without a reduction. Chevron’s earnings are highly susceptible to fluctuations in the price of oil, which increase the company’s standard deviation.
Why it Matters: The S&P Low Volatility index outperformed the S&P 500 by 2 percentage points per year for the 20-year period ending September 30, 2011.
Source: Low & Slow Could Win the Race
Current events
Chevron operates in two divisions, upstream and downstream. The highly profitable upstream division has accounted for 87% of the company’s earnings through the first half of 2014. Chevron posted solid second-quarter results this year, with earnings per share for the quarter growing by over 5.5% from the second quarter of 2013.
Chevron managed to lead its peers in upstream earnings margin for the first half of 2014. The company has had the highest earnings margin on its production from 2010 to now. Chevron’s ability to control cost and focus on low cost of acquisition energy sources gives it an edge in the competitive energy production business.
Source: Chevron 2nd Quarter Earnings Presentation
Oil and gas businesses are constantly searching for ways to replace their resources. The lifetime of each project is finite, and oil and gas reserves must constantly be replaced. Chevron is among the most adept oil companies in the world at replacing its assets. The company has replaced 120% of its exploration resources from the 2003 to 2012 period.
Source: Chevron Investor Presentation
Growth prospects
Chevron has positioned itself to grow production significantly over the next several years. The company expects a 20% production increase over the next 3 years. The company will achieve strong production growth through its large scale projects which include the following: Tubular Bells, Jack/St. Malo, Big Foot, Angola LNG, Gorgon, and Wheatstone.
Tubular Bells
The Tubular Bells project is expected to start production in the third quarter of 2014. The project will add about 44 MBOED to production. The Tubular Bells project is a deep water operation located in the Gulf of Mexico.
Jack/St. Malo
The Jack/St. Malo project is also a deep water project located in the gulf of Mexico. The project is expected to begin production in the fourth quarter of this year and will add 177 MBOED to production at peak operating capacity.
Big Foot
Like the Jack/St. Malo and Tubular Bells projects, the Big Foot project is a deep water operation located in the gulf of Mexico. It is expected to begin production in 2015 and add 79 MBOED to production for Chevron.
Angola LNG
The Angola LNG project will contribute about 60 MBOED to Chevron when it starts operating at peak efficiency. The project has had several setbacks and delays including fires and various technical issues. The Angola LNG project has stopped production for repairs. Chevron expects the Angola LNG project to provide sustained production by the 2nd half of 2015.
Gorgon & Wheatstone LNG
The Gorgon and Wheatstone LNG projects are both located off the northwest coast of Australia. The projects are the centerpiece of Chevron’s production growth plan. They are expected to begin production in late 2014 or early 2015 and increase production significantly to 2020. At their peak, the projects will add over 450 MBOED to Chevron’s production.
Source: Chevron Australia Overview
For Chevron to increase production 20% over the next 3 years, the company will have to add over 1,000 MBOED of production to its current operations. The projects above will add over 800 MBOED of production to Chevron’s operations. The company has other projects ongoing which will add to production growth over the next several years. The breadth of Chevron’s global production expansion program is shown in the image below.
Source: Chevron Investor Presentation
Shareholder return
Shareholders of Chevron will likely see solid returns over the next several years. The company is expected to grow production by about 7%. If production costs and oil prices remain stable, shareholders will see 7% annual growth from this production growth. Additionally, Chevron has repurchased approximately $40 billion in shares over the last decade and currently has a dividend yield of about 3.4%. If Chevron can execute on its growth plans, shareholders will see a CAGR over the next several years of about 12% from dividends (3.4%), share repurchases (1.6%), and production growth (7%).
The above calculations do not factor in valuation. Chevron has a P/E ratio of about 12 which is lower than ExxonMobil’s P/E ratio of 12.6, BP’s (BP) P/E ratio of 14.7, and Royal Dutch Shell’s P/E ratio of 20.7. Additionally, Chevron’s P/E ratio of 12 is well below the S&P 500’s P/E ratio of about 19. The company appears undervalued relative to its integrated oil and gas peers and the overall market. Capital appreciation gains from multiple expansion could push shareholder return above 15% per year for the next several years.
Recession performance
Oil prices tend to decline during recessions. Chevron’s earnings are tied to energy prices. As the price of oil rises, Chevron generates greater profits. Conversely, as the price of oil falls, Chevron’s profit margins are reduced. Recessions damage the short-term earnings power of Chevron due to declining oil prices.
During the Great Recession of 2007 to 2009, Chevron saw its earnings per share decline from a high of $11.67 in 2008, down to $5.24 in 2009. Revenue per share decreased from $136.21 to $85.50 during the same time period. Despite these steep declines, the company’s long-term earnings power was not damaged. Chevron posted record earnings per share just 2 years later in 2011.
Final thoughts
Chevron is a high quality oil and gas business with substantial growth opportunities ahead. The company is well managed and shareholder friendly, as evidenced by its rising dividend payments and share repurchases. Shareholders of Chevron will likely see a strong CAGR over the next several years.
The company is ranked 41st based on the 8 Rules of Dividend Investing. The company would rank significantly higher if not for its sluggish 10-year growth rate. If you use Chevron’s expected revenue per share growth rate from production growth and share repurchases (about 8.5%), the company would be the fourth-highest ranked stock out of 132 businesses with 25-plus years of dividend payments without a reduction. Based on the company’s low valuation, growth potential, and high yield, Chevron will make an excellent investment for income oriented investors seeking capital appreciation over the next several years.
