There are a few companies in America that are just woven into the fabric our society. One of the most iconic could be oil & gas firm Hess (NYSE:HES) and it’s green and white service stations. And let’s not forget those toy trucks come the holiday season. But for HES stock lately has been has been more infamous.
No there’s no massive oil spill or insider accounting fraud. For HES stock it’s more about significantly underperforming its peer group.
The firm has managed to zig when the energy sector was zagging on a number of occasions. And unfortunately, those zigs have cost Hess big time in the profits and returns department.
To that end, HES stock has been the target of activist investors and those efforts have only increased since the start of the new year.
Some Big Problems at Hess
Size has always been an issue at HES. And in that lack of scale, Hess has always been sort of second or even third fiddle to many other energy companies. The problem is/was, Hess had chosen the integrated model of business. So, it owned exploration assets, midstream pipelines as well as downstream refining and those iconic gas stations.
However, because it wasn’t a pure refining player like Valero (NYSE: VLO), it could never squeeze out enough margins to make the downstream items work. At the same time, since it wasn’t a pure E&P firm it missed out on plenty of opportunities in the shale space.
Being integrated is all about scale. There’s a reason why Exxon Mobil (NYSE:XOM) still produces profits bigger than some nation’s GDPs.
In that, HES stock has always underperformed many of its peers. And as energy stocks like ConocoPhillips (NYSE:COP) began getting “lean & mean” and divesting themselves of assets, Hess continued to struggle.
And then right around 2013-ish, activist hedge fund Elliott Management took a stake in Hess and pushed for changes. That included selling assets including those iconic gas stations, energy-related businesses and shaking up the board.
John Hess, the son of the company’s founder Leon Hess, was forced to step down as chairman, but was able to keep his role as chief executive.
Elliott Pushes Harder At Hess
Elliott’s moves worked for a while. Hess actually saw some decent share price and operational performance. But with the Hess family still calling the real shots, the energy stock kept its guns on its min-integrated model. That turned out to be a raw deal for investors as energy prices declined hard. Remember, it’s all about scale when it comes to integration.
HES stock has chronically underperformed the market. Since the oil rout began in the summer of 2014, Hess shares have sunk about 37%. That compares to a return of 63% for the S&P 500. In fact, the drop in HES has been so severe that the stock recently hit a 12 year low over the fall.
So, naturally, Elliott isn’t happy. And it’s throwing its 6.7% stake as well as stakes owned by some other unhappy shareholders behind a new set of proposals.
According to sources at Elliott, the basics behind the proposals include dumping assets in Malaysia, buying back more shares, and cutting the firms dividend to raise cash. However, the real meat and potatoes of the suggestions include replacing Mr. Hess and putting the venerable energy firm up for sale.
But those proposals might not work again.
Hess does have good assets- such as its leadership position in the Bakken shale. That would be a great addition to any firm. But the problem is getting that sort of sale done. The firm’s flagship assets would require a full buyout. There’s no way HES would sell those Bakken assets or its Gulf of Mexico assets on their own. Piecemealing it, may not be an option.
But a full buyout would be a very expensive endeavor. Right now, Hess has a market value of around $20 billion. That’s a very expensive pill to swallow that only energy firms like Exxon of Royal Dutch Shell (NYSE:RDS-A) could swallow. Even worse is that John Hess controls more than 11% of HES stock.
In order to get some sort of buyout deal would require him and the Hess family to receive a very large deal premium.
In the end, even if Elliott had enough shareholders vote, it might not be enough.
Looking Elsewhere Besides HES Stock
Shares of HES popped initially on Elliott’s recent pressures on Hess’s board. And it’s easy to see why. There needs to be some significant change in the energy stock. But making the change won’t be easy.
Already, energy prices have started to drop and getting a major sale or buyout may not be realistic in the cards. Investors in HES stock may be let down once again. And given that many other energy stocks have used the downturn correctly, to get “lean & mean,” why waste your time on a turnaround that could continue to falter?
HES stock isn’t going away just yet. It’s too big. But that’s always been its problem. Too big, but not big enough. And that will help hinder Elliott’s new guidelines from making a serious difference over the long term.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.