Chevron (NYSE:CVX) produced significant cash flow during Q1, covering its dividend, just like it said it would last month. As a result, CVX stock has an attractive 5.8% dividend yield. It is worth at least 40% more than its price today, mainly because the energy multi-national is going to continue paying its dividend.
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Last month I wrote that Chevron was significantly undervalued when it was trading at $68.56. In my article on April 1 — Chevron Has Put a Priority On Protecting Its Big, Fat Dividend — I argued that the stock’s 7.4% dividend yield was a very attractive opportunity.
A month later, I stand by that. Here’s why.
Chevron Protects Its Dividend
Chevron had just announced that its focus was on protecting the dividend, wisely spending its capex, and not over-leveraging the balance sheet.
That is exactly what Chevron did during the first quarter, producing earnings of $3.8 billion and cash flow from operations of $4.8 billion. This was more than enough to cover its dividend cost of $2.4 billion.
Here is why that is important. On April 29, Chevron declared a quarterly dividend of $1.29 per share, payable on June 10. This is the second consecutive dividend with a higher quarterly rate above its previous $1.19 per share dividend rate.
In other words, Chevron is so confident about its ability to finance the dividend, it boosted it. So at today’s price, the annualized dividend per share of $5.16 gives CVX stock a 5.77% dividend yield. While down from the 7.4% it carried when I wrote the April 1 article, I still feel Chevron is worth investing in even at this level.
Sufficient Cash Flow
Most of Chevron’s earnings come from its upstream operations, that is, its exploration and production of oil and gas. In the past quarter, it produced $2.92 billion out of the total $3.599 billion in earnings, or 81.1%. But this was up 35.9% over last year.
So as the price of oil fell during the quarter, Chevron increased worldwide output by 6%, mainly in its international oil and gas rigs. This was the equivalent of 3.2 million barrels of oil per day. It also increased output and earnings in its downstream oil and gas products division.
But production in the coming months will be constricted, as the company has reduced its oil rig count now by 60% to just 20 rigs in Q2. Demand for its downstream products like jet oil and diesel is down 75% and 25%, respectively. This will likely lead to a lower level of output, at least for its upstream operations.
That may not translate into lower cash flow. Chevron has done a good job of managing the decline in prices and profits. For example, even though revenue was down $3.7 billion or 10.5% from a year ago, its cash flow operations (CFFO) was only down just $400 million, or 7.8%.
This feeds into higher free cash flow because the company has also reduced its capex spending. For example, in its earnings slide presentation, Chevron said it expects second-half capex to be lower by 40%.
Long-Term Capital Return Plan
At the beginning of March, CEO Mike Wirth said that Chevron would return more than $80 billion to shareholders over the next five years. That is a very confident statement to make.
Since then the company has cut its capex spending plans from $19 billion-$22 billion for the year to now just below $14 billion. It may be lower than that in the second half.
What this shows is that the company is committed to its capital return plans over the next five years. Given its market value of $167 billion, the $80 return of capital represents a return on investment of at least 48% over the next five years.
The Expected Return on CVX Stock
That does not include any price movement for CVX stock. It also represents a compound average return of 8.1% per year. If the price of oil should start to rebound from its current lows, the stock’s total return will likely be greater than this.
For example, in my last article, I pointed out that CVX is worth at least $127.87 per share based on its historical dividend yield of 4.1%. That would be almost 40% above Monday’s $91.44 close.
If it takes three years for CVX stock to achieve that return, then the compounded ROI will be 12.7% per year. So adding in the 8.1% capital return projections, the total return for investors in CVX stock could be 20.8% per year on average over the next three to five years.
Of course, there is no guarantee this will happen. But given Chevron’s commitment and proven actions to follow through with this plan, the probabilities are higher than average. This is an excellent potential return for most investors.
As of this writing, Mark Hake, CFA does not hold a position in any of the aforementioned securities. Mark Hake runs the Total Yield Value Guide which you can review here.
