Chevron (IL/A): No change to view following analyst meeting; XOM, OXY preferred among super-cap oils - Goldman Sachs - March 08, 2006
We came away from Chevron's analyst meeting continuing to believe that although the shares appear inexpensive, concerns about its core E&P asset base and lack of visible catalysts point to better opportunities elsewhere in the sector. In our view, Chevron's unchanged long-term production outlook of 3.1-3.2 million BOE/d relative to the December 2004 analyst meeting which pre-dated the Unocal acquisition highlights investors' fears of potentially deteriorating E&P fundamentals at Chevron. For investors looking for inexpensive oil equities with "super-major"-like qualities, we believe Occidental Petroleum (OP/A) provides a superior combination of returns and growth at a similar valuation to Chevron. Among US-based super- majors, we continue to favor Exxon Mobil (OP/A) as a superior low-beta offset to our top domestic oil/E&P picks. Chevron remains IL/A rated.
CHEVRON'S CORE ASSET BASE APPEARS TO BE UNDERPERFORMING
What perhaps was most noteworthy from today's analyst meeting was that Chevron's 2010 E&P production expectations of roughly 3.1-3.2 million BOE/d (3%+ CAGR) remained unchanged from its previous guidance at the December 2004 analyst meeting despite Chevron's acquisition of Unocal. Essentially the company spent an extra $18 billion (total purchase price for Unocal including assumed net debt) to reach previously targeted production levels. This compares to Chevron's total capital spending budget of $15-$16 billion over the next couple of years which itself appear slightly higher than our forecasts.
While asset sales, entitlement effects, and potential permanent production loss from hurricane activity in 2005 detracted from production, we estimate that these effects could not have been more than 150,000 BOE/d relative to current production from Unocal assets of around 425,000 BOE/d. In our view, the fact that a large acquisition was necessary to achieve previously forecasted production levels suggests that the decline rates on Chevron's legacy assets are meaningfully worse than expected. We believe investors' "de-rating" of Chevron shares logically reflects this situation.
On a positive note, we believe Chevron's roughly 115% reserve replacement expectations on average over the next couple of years is slightly better than our forecasts of 105% for the same time period. Reserve bookings in 2006 and 2007 should be better than in recent years given expected project sanction and start-up of various large fields. Having said that, whether or not Chevron can continue to replace, if not grow its reserve base organically over the long-run is a key issue investors will continue to debate.
CHEVRON SHARES INEXPENSIVE, BUT WE ARE STICKING WITH OUR IN-LINE RATING AT THIS TIME
Chevron shares do not appear expensive trading at only 4.3X 2007E EV/DACF (enterprise value to debt-adjusted cash flow), which compares to the super-cap oil average of 5.2X and the domestic oil/E&P average of 4.3X. Our In-Line rating on Chevron reflects our view that (1) it is not clear Chevron has sufficient lower-risk "bread-and-butter" exploitation that could offset production declines that appear to be taking place; (2) we do not see visible near-term catalysts for the shares; and (3) we see a more attractive combination of returns, growth, and valuation in other oil equities. Occidental Petroleum (OP/A), for example, we believe can achieve super-major-like returns on capital employed (ROCE) at above-average production growth through 2010. Oxy currently trades at 4.5X 2007E EV/DACF.
WE SEE 11%/38% UPSIDE TO OUR "TRADITIONAL" MID-CYCLE/PEAK VALUES
On an absolute basis, we see meaningful upside for Chevron shares given our bullish commodity outlook. We estimate 11% upside to our $60 "traditional" mid-cycle value which assumes $35 per barrel long-term WTI oil and 38% upside to our $75 "traditional" peak value which corresponds to $45 per barrel long-term WTI oil. Given our view that investors are likely to ratchet-up long-term WTI oil assumptions throughout 2006, we believe Chevron (and other oil equities) can trade toward our "traditional" peak valuations.
Each of the analysts named below hereby certifies that, with respect to each subject company and its securities for which the analyst is responsible in this report, (1) all of the views expressed in this report accurately reflect his or her personal views about the subject companies and securities, and (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this report: Arjun Murti, Luis Ahn. |
