Without much fanfare, oil recently regained the $50 a barrel level. While it has wavered a bit in recent days, crude is in a better place now than it was a few months ago because the oil market has drained off some of its excess supply, which is putting it close to being back in balance. Those improving market fundamentals suggest that crude prices should at least stabilize around $50 a barrel, if not go higher.
Either scenario would be a boon for top-tier oil stocks, which have repositioned their business to thrive at $50 crude. While that elite list continues to expand as more producers finish their turnaround plans, five oil stocks currently stand out as the cream of the crop:
Growth Rate at $50 Oil
ConocoPhillips (NYSE: COP)
Up to 2%, plus return 20% to 30% of cash flow to investors with dividends and buybacks
Encana (NYSE: ECA)
60% production growth by 2021
EOG Resources (NYSE: EOG)
15% annually through 2020, and pay its current dividend
Marathon Oil (NYSE: MRO)
10%-12% through 2021, and pay its current dividend
Occidental Petroleum (NYSE: OXY)
5% to 8% annually, plus pay a growing dividend
Data source: EOG Resources, Encana, ConocoPhillips, Marathon Oil, and Occidental Petroleum.
Here's a quick look at how this group got to that elite level.
Shifting the focus from absolute growth to total returns
One of the reasons the oil industry got itself into such a mess was that producers concentrated on increasing production at all costs instead of growing returns for investors. That's why ConocoPhillips' new go-forward plan focuses on the total annual return it produces for investors. At the center of that strategy is its ability to pay a growing dividend. After achieving that aim and spending enough capital to keep production flat, Conoco plans to allocate the rest of its cash flow between cash returns to shareholders and growth initiatives. When oil is at $50 a barrel, the company can generate enough money to pay a growing dividend, buy back some shares, and increase production by around 2%. Add those factors together, and the oil giant should produce 5% to 10% annual returns, with more upside as crude rises.
More fuel-efficient growth
When Encana unveiled its new five-year plan last fall, the Canadian shale driller thought it could deliver a 60% increase in its output by 2021 and that it could achieve that growth rate while living within cash flow as long as oil averaged $55 a barrel. Fueling that forecast is the company's vast inventory of premium return drilling locations, which can earn it a 35% after-tax rate of return at $50 oil. However, thanks to continued innovation and efficiency gains, Encana is well ahead of pace one year into that plan. As a result, the company now believes it only needs oil to average $50 a barrel to give it the fuel required to achieve its production growth target.
Same fuel, but a higher growth rate
EOG Resources was one of the first drillers to use $50 oil as the baseline for its growth forecast. Initially, the company expected that it could use its premium return drilling inventory -- which has a higher return hurdle than Encana's of 30% after-tax at $40 oil -- to fuel 10% annual growth in its U.S. oil output through 2020. However, thanks to efficiency gains and continued innovation, EOG Resources revised that up to 15% annually at the same oil price, with the potential to increase output by 25% if crude averages $60 a barrel.
Repositioned and ready to rock
Marathon Oil, like Encana, initially needed $55 oil to fuel its go-forward plan. However, after trading its Canadian oil-sands assets for land in the low-cost, high-growth Permian Basin, Marathon now believes it can deliver 10% to 12% compound annual production growth through 2021 and pay its dividend while living within cash flow as long as oil is in the low-$50s. That's a significant improvement from where the company was a few years ago when it needed a much higher oil price just to maintain its production rate, let alone grow it.
Supporting a high-yield with lower oil prices
Like most oil companies, Occidental Petroleum spent the oil market downturn cutting costs and reshaping its portfolio so it could run at a lower oil price. However, one of the expenses it chose not to cut was its dividend. It therefore needs to generate more cash flow than most rivals to break even, especially since one of the crucial elements of the reduced breakeven levels of ConocoPhillips and Marathon Oil was their decision to cut the dividend. All the same, Occidental Petroleum has held firm on the payout -- which currently yields 4.9% -- and worked hard at other initiatives to boost cash flow. As a result, it has gotten to the point where it's within striking distance of generating enough cash flow at $50 oil to support its dividend and increase production by a mid-single-digit rate.
Low-cost wins in any market environment
The ability of these oil companies to get to the point where they can generate enough cash flow at $50 oil to fuel their plans sets them apart from rivals that are still trying to reposition for lower prices. Their stocks should thus outperform weaker competitors if oil stays flat for the long term. Meanwhile, they still have ample upside if crude rises because they'll make more per barrel in that environment given their lower breakeven levels. That's why investors who are thinking about adding an oil stock to their portfolio should seriously consider choosing one from this list because they should win no matter what crude does in the future.
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