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Oil & Gas - U.S. Integrated Stock Outlook: Prospects Bright

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West Texas Intermediate (WTI) crude recently touched the $75-a-barrel psychological mark, showing a more than 186% improvement from February 2016 when the commodity had hit its lowest level of $26.21 since 2003. The surge in oil price is definitely a boon for upstream and midstream businesses of integrated energy companies.

Healthy crude price will likely convince energy players to ramp up production in domestic shale plays. From storing and transporting new oil volumes, integrated energy firms are expected to get additional fee-based revenues from shippers.

Moreover, the abundance of natural gas in the United States following the shale revolution will continue to back the integrated energy firms’ chemical/downstream activities since the players’ petrochemical crackers should benefit from cheaper natural gas feedstocks like ethane instead of naphtha — which is derived from the pricier crude.

Industry Rewards Shareholders with Huge Returns

Looking at shareholder returns over the past year, it appears that the crude price recovery was enough for boosting investors’ confidence in the industry’s prospects. The Zacks Oil & Gas-US Integrated Industry, part of the broader Zacks Oil and Energy Sector, has outperformed both the S&P 500 and its sector over the past year. 

We can see that stocks in this industry have collectively gained 44.3% over the past year, while the Zacks S&P 500 Composite and Zacks Oil and Energy Sector have rallied a respective 14.2% and 18.7%.

One-Year Price Performance

Plenty of Room to Run

In order to determine the value of the oil sector, we have used the trailing 12-month Enterprise Multiple. This is because oil energy players typically shoulder significant debt pertaining to investments in growth projects and EV includes debt for valuing company or industry.

Enterprise Multiple = Enterprise Value (EV)/EBITDA

The industry currently has a trailing 12-month EV/EBITDA ratio of 9.09. When compared with the highest level of 10.49 over that period, there is apparently room for more upside.

Enterprise Value/EBITDA Ratio (TTM)


The space also looks cheap when compared with the market at large, as the trailing 12-month EV/EBITDA ratio for the S&P 500 is 11.48 and the median level is 11.38.  

Comparing the group’s EV/EBITDA ratio with that of its broader sector shows that the industry is trading at a considerable premium. In fact, the solid business potential has convinced investors to persistently pay premium for the industry as compared to the broader sector over the past few years.  

Enterprise Value/EBITDA Ratio (TTM)


Outperformance May Sustain on Strong Earnings Outlook

Per our proprietary model, the industry’s trailing 12-month free cashflow as of Dec 31, 2017 was $6.4 billion, significantly up from $542 million in 2016. This reflects that the industry has sufficient cashflow left for financing growth projects without the need to rely on debt and equity capital.

Moreover, the industry has considerable lower exposure to debt as compared to the S&P 500. This is reflected in the industry’s debt-to-capitalization ratio of 34.7% against the S&P 500’s 47.2%. Hence, apart from adequate free cashflow, the industry has sufficient space for sponsoring future developments by debt capital if need arises. 

While the ratio analysis shows that there is a solid value-oriented path ahead, one should not really consider the current price levels as good entry points unless there are convincing reasons to predict a rebound in the near term. 

One reliable measure that can help investors understand the industry’s prospects for a solid price performance is the earnings outlook for its member companies. Empirical research shows that a company’s earnings outlook significantly influences its stock performance.

The Price & Consensus chart for the industry shows the market's evolving bottom-up earnings expectations for it as well as the industry's aggregate stock market performance. The red line in the chart represents the Zacks measure of consensus earnings expectations for 2019 while the light blue line represents the same for 2018.

Price and Consensus: Zacks US IntegratedIndustry


This becomes clearer by focusing on the aggregate bottom-up EPS revision trend. The chart below shows the evolution of aggregate consensus expectations for 2018.

Please note that the $2.69 EPS estimate for the industry for 2018 is not the actual bottom-up dollar estimate for every company within the Zacks Oil & Gas-US Integrated Industry but rather an illustrative aggregate number created by our proprietary analytics model. The key factor to keep in mind is not the industry’s earnings per share for 2018 but how this estimate has evolved recently.

Current Fiscal Year EPS Estimate Revisions


As you can see here, the $2.69 EPS estimate for 2018 is up from $2.03 at the end of April and 55 cents at the end of August 2017. In other words, the sell-side analysts covering the companies in the Zacks US integrated industry have been steadily raising their estimates.

Zacks Industry Rank Indicates Solid Prospects

The group’s Zacks Industry Rank is basically the average of the Zacks Rank of all member stocks.

The Zacks Oil & Gas-US Integrated Industry currently carries a Zacks Industry Rank #18, placing it in the top 7% of more than 250 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

On top of that, our proprietary Heat Map shows that the industry’s rank has been in the top 50% for the past eight weeks with an overall steady upward trend.

The solid near-term prospects are strengthened further by the recovery in top and bottom lines that integrated energy firms have been showing since the start of 2017.

Revenues: Zacks US Integrated Industry

Net Income: Zacks US Integrated Industry

Bottom Line

Prospects for upstream businesses seem promising as the current crude rally is expected to continue on numerous factors.

Possibility of higher oil output from Saudi Arabia and Russia will not be able to offset global supply concerns emanating from Venezuela’s supply and Iran’s sanction issues. This is constantly driving WTI crude price. On top of that, a booming domestic economy, as reflected from robust job additions and the increase in labor force participation rate, is fueling the oil rally.  

Midstream businesses are also picking up pace given the mounting demand for new pipeline networks in the domestic shale plays. Also, integrated energy firms are investing in petrochemical crackers in the Gulf Coast areas for capitalizing on cheap domestic natural gas feedstocks like ethane.

Overall, it seems to be the ideal time to bet on four integrated energy companies with a Zacks Rank #1 (Strong Buy) or 2 (Buy) and positive earnings estimate revisions.

ConocoPhillips (COP - Free Report) : This Houston, TX-based firm has gained 66% over the past year. The #1 Ranked company’s Zacks Consensus Estimate for current-year EPS has been revised 15.8% upward over the last 60 days.

One-Year Price Performance: COP

Marathon Oil Corp. (MRO - Free Report) : This Houston, TX-based player has gained 96.4% in a year’s time. The Zacks Consensus Estimate for this Zacks #1 Ranked firm’s current-year EPS has been revised 44.4% upward over the last 60 days.

One-Year Price Performance: MRO

Occidental Petroleum Corp. (OXY - Free Report) : This Houston, TX-based company has surged 46.6% over the past year. The Zacks Consensus Estimate for this Zacks Rank #1 company’s current-year EPS has moved up 22.4% over the last 60 days.

One-Year Price Performance: OXY

Hess Corp. (HES - Free Report) : This New York-based company has rallied 66.2% over the past year. The Zacks Consensus Estimate for current-year loss has been narrowed from $1.07 a share to 67 cents. The company has a Zacks Rank #2.

One-Year Price Performance: HES

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