Chevron: Profits Down, Still Peak Price (NYSE:CVX)

Late October I noted that Chevron (NYSE:CVX) was pumping profits, a logical observation following higher oil prices, but unlike previous peak oil prices, it is the sector at large and Chevron which are showing real capital discipline this time. This is driven by the pain of the shale revolution, and its implosion in the aftermath, as well as focus on ESG and concerns among producers that softer economic times might be arriving.

This observation and situation creates the potential for elevated cash flows and profits to last longer than previous booms, creating a lively debate if these observations are rightly priced into the shares, or if shares might see an inevitable retreat as well.

A Quick Turnaround

Nearly three years ago, the world looked a lot different for major oil and gas producers and distributors. Grappling with the initial stages of the pandemic, even majors prepared for massive turmoil as oil prices even turned negative. With the situation rapidly improving, Chevron flexed its balance sheet muscles to acquire Noble Energy in a $13 billion deal, adding a lot of reserves and production across the globe, as well as increased net debt to $32 billion on a pro forma basis. The company was even in the race for Anadarko, but bailed on that business, as the long-term balanced capital allocation has historically created lots of shareholder value, with the company on track to do so again in the future for investors.

Amidst this, shares recovered to the $100 mark and traded at $120 at the start of 2022, just ahead of the war breaking out between Russia and Ukraine. Note that Chevron’s shares already peaked around these levels in 2013-2014 as well as 2018. Following the war breaking out, shares rallied to the $180 mark in June of last year, and with exception to a brief pullback to the $140 mark, shares have traded around these highs since October again.

Ahead of the war between Russia and Ukraine, the company had already seen a big recovery in the 2021 results, coming out of the pandemic. Sales for 2021 were reported at $162 billion on which earnings of $15 billion were reported, with the run rate coming in much higher, and net debt cut to $25 billion again. Full year earnings came in around $8 per share, with the run rate reported at $10 per share in the fourth quarter, as Chevron used momentum to acquire the Renewable Energy Group in a $3.15 billion deal.

What followed was unheard operating momentum in 2022. First quarter sales rose to $52 billion, second quarter sales were reported at $68 billion and third quarter sales stabilized around $66 billion. Earnings came in at $6 billion, $12 billion and $11 billion, respectively. Despite hiked dividends and large buybacks, net debt fell to just $8 billion. With 1.94 billion shares being lifted to $180, the equity valuation rose to $350 billion, with this valuation closely approximating the enterprise valuation of course.

Besides the booming earnings, trending at a >$40 billion run rate, Chevron was seeing capital spending trending at just $11-$12 billion, trailing depreciation charges by about $4-5 billion, generating additional cash flows on top of the earnings power reported, due to the fact that the company has spent tens of billion for years in a row in the past of course.

While an $80 billion EBITDA number is not sustainable, it shows the huge earnings power currently, which even if it comes under pressure, reveals huge debt capacity of the firm for capital spending or shareholder payouts. Based on $20-$25 per share earnings power, the resulting 7-9 times multiple looked very cheap, but these are not sustainable earnings numbers of course. The question is how far earnings will fall back if they do, how soon this arrives, and how much of an earnings contribution will be provided by the alternative and more renewable side of the business.

Given all this, and the disciplined capital approach, I continued to hold shares of Chevron in October at $180, as we still find ourselves trading at similar levels today.

Continuing To Perform

Since the third quarter earnings release, it has been quite active on the news front with regard to Chevron. In November, the company announced the purchase of Beyond6 LLC, an operator of 55 CNG stations, while no financial details have been reported.

In December, the company announced its capital spending budget for 2023 which was set at $14 billion for its consolidated affiliates, and another $3 billion for equity affiliates. The combined $17 billion budget is about a quarter higher from 2022, albeit that it includes low double-digit cost inflation. Later in the month, the company announced an investment into carbon capture technology provider Svante.

The pay-out party was announced days ahead of the fourth quarter results, as Chevron hiked the quarterly dividend by nine cents to $1.51 per share, a 6% increase compared to the prevailing dividend, marking the 36th year in a row in which dividends have been hiked. Moreover, the company announced a huge $75 billion buyback program, albeit that no timing, nor expiration of the program has been announced.

The fourth quarter results were quite resilient, albeit that average prices between $70 and $90 have been coming down from prevailing oil prices earlier during 2022. Fourth quarter revenues of $56 billion were down quite a bit from the second and third quarter as the company still squeezed out a $6.4 billion profit. For the year, the company generated $246 billion in revenues on which it posted net earnings in excess of $35 billion. While a +$18 per share number for the year was strong, the run rate fell down to $13 per share based on the fourth quarter results.

The company kept net debt pretty flat at $6 billion, as lower profitability was eaten by somewhat higher capital investments, but mostly dividends and share buybacks. Lower capital spending in 2022 made that production has come down. Production in terms of barrels of oil-equivalent fell from 3.12 million barrels per day in 2021 to 3.01 million barrels per day.

What Now?

The truth is that the fourth quarter was quite uneventful, albeit that it shows that Chevron remains constrained with net capital investments here. On the bright side, the company continues to make investments in environmental technologies and renewables, gradually creating small other revenue streams outside the core production and marketing & distribution business.

Furthermore, debt remains very modest as investors look forward to continued shareholder handouts here, which have actually attracted political outreach, which favor more production and lower prices for consumers being hurt by inflationary trends. That outreach is a bit cynical, as on the other hand political parties favor an acceleration to renewables as well.

The reality is that while the fourth quarter was a bit softer, investors should probably look forward to similar results in the near term, which are pretty decent enough to support the shares here, as Chevron seems to have a balanced capital allocation approach.

That said, the number of the share buyback program seems quite aggressive, as the pace of buybacks will interest me, given the historical high levels at which shares trade here, with buyback trending at $15 billion per annum based on the fourth quarter activity, actually having increased a bit as of recent.

Amidst all this, I continue to hold Chevron here, but I see no reason to alter my existing long position here.