Today we look at the energy stock that remains our best buy among oil and gas companies. Imperial Oil benefits from its deep financial resources and its diversification. The company’s refineries and filling stations continue to generate steady revenue, aided by lower oil prices. Meanwhile, increasing production and decreasing capital costs from its two big oil sands projects also promise to work in Imperial’s favour. Even with the recent market sell-off, Imperial’s shares have fallen much less than the price of crude oil—and the company recently raised its dividend for the 20th consecutive year.
Oil prices have dropped over 50% in the past year, but Imperial Oil’s shares are down just 20%. That’s mainly because cheaper crude cuts its refineries’ input costs and increases their profit margins. New oil sands projects are also adding to its production.
In addition to low oil prices, Imperial faces potentially higher royalties and tougher environmental regulations.
Still, we feel the company’s high-quality reserves will help it overcome these short-term challenges. Plus, its operating costs per barrel will keep falling as its new projects reach full capacity.
IMPERIAL OIL LTD. (Toronto symbol IMO; www.imperialoil.ca) is Canada’s second-largest publicly traded oil company, after Suncor Energy (see page 83). Imperial is a 69.6%-owned subsidiary of U.S.-based ExxonMobil (New York symbol XOM).
About 90% of Imperial’s crude production comes from its Alberta oil sands operations, including its 25% stake in the Syncrude project.
It also has conventional oil and natural gas operations in Western Canada and owns stakes in projects off the coast of Atlantic Canada. Based on its current daily output, Imperial’s 4.0 billion barrels of proven reserves should last 32 years.
In 2014, the company’s oil and gas properties supplied just 25% of its revenue but roughly 50% of its earnings. The remaining 75% of revenue and 50% of earnings came from its three refineries (one in Alberta and two in Ontario), petrochemical operations and 1,700 gas stations, which operate under the Esso banner.
Higher oil production and prices increased Imperial’s revenue by 45.2%, from $24.9 billion in 2010 to $36.2 billion in 2014.
Earnings rose to $4.45 a share (or $3.8 billion) in 2014 as new oil sands projects started up. Cash flow per share gained 78.4%, from $3.38 in 2010 to $6.03 in 2012. It then fell to $5.16 a share in 2013 but rebounded to $6.32 in 2014.
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Energy stocks: Both Kearl and Cold Lake oil sands projects close to reaching full production
Imperial recently completed the second phase of its Kearl oil sands project in northern Alberta. The company owns 71% of Kearl, while ExxonMobil holds the remaining 29%.
Kearl uses a proprietary system to process the tar-like bitumen, eliminating the need for a costly on-site upgrader. This process also produces fewer emissions than traditional methods.
In the three months ended June 30, 2015, Imperial’s share of Kearl’s output was 92,000 barrels a day. The project should produce 220,000 barrels a day (156,200 to Imperial) when it reaches full production by the end of 2015. Future improvements could increase Kearl’s daily output to 345,000 barrels (244,950 to Imperial).
Imperial is also expanding its 100%-owned Cold Lake oil sands project, which will add 40,000 barrels of production a day by the end of this year. Thanks to these new projects, Imperial produced an average of 344,000 barrels a day (94% oil and 6% gas) in the second quarter of 2015, up 19.9% from a year earlier. However, lower oil prices cut its revenue by 27.3%, to $7.3 billion from $10.0 billion.
Earnings dropped to $0.14 a share (or a total of $120 million), mainly due to a $320-million charge to cover higher corporate taxes in Alberta. A year earlier, a $478-million gain on sales of less important properties pushed up earnings to $1.45 a share (or $1.2 billion). Cash flow per share fell 37.2%, to $0.81 from $1.29.
As Kearl and the Cold Lake expansion reach full production, Imperial’s capital spending will fall to $4.0 billion in 2015 from $4.6 billion in 2014. It will likely drop to $3.0 billion in 2016.
The company also has a 50/50 joint venture with ExxonMobil to build a new terminal on Canada’s west coast that would export liquefied natural gas to markets in Asia. If the partners go ahead with this project, it would cost up to $25 billion ($12.5 billion to Imperial) and could start up in 2024.
Like most oil producers, Imperial is shipping more of its crude by rail because of a lack of pipeline capacity. As a result, it formed a joint venture to build a new rail terminal in Edmonton that started up in April 2015 and can handle 210,000 barrels of crude a day. Further upgrades could boost its capacity to 250,000 barrels a day.
Meanwhile, Imperial’s balance sheet remains sound. Its total debt of $8.0 billion is a moderate 19% of its market cap, and it ended the latest quarter with cash of $28 million. Due to low oil prices, the stock trades at a high 22.0 times Imperial’s projected 2015 earnings of $2.23 a share. It also trades at 12.4 times the company’s likely cash flow of $3.95 a share.
Earnings could improve to $3.44 a share in 2016, and the stock trades at a more reasonable 14.2 times that estimate. It also looks attractive at 8.6 times Imperial’s forecast 2016 cash flow of $5.70 a share.
As well, the company recently raised its dividend by 7.7%. The new annual rate of $0.56 a share yields 1.1%. Imperial has now increased the payout for 20 consecutive years.
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