Equinor: An Undervalued Cash Flow Machine

Renewable Energy
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One oil company that is dramatically underfollowed in the United States and should not be is Norwegian giant Equinor ASA (EQNR). It is sometimes the case though that underfollowed companies can present excellent opportunities to investors as these companies can be quite undervalued. I believe that this is the case with Equinor as the company is expanding into new markets, boasts a very appealing dividend yield, and has strong forward earnings growth while throwing off a copious amount of free cash flow. This is a company that all investors interested in the energy space should have some familiarity with and it could work quite well as a core holding in your portfolio.

About Equinor

Equinor was founded on July 14, 1972, as Den Norske Stats Oljeselkap A/S by the Norwegian government to develop the nation’s oil reserves located in the North Sea and on the Norwegian Continental Shelf. Over time, the company expanded beyond this mandate and transformed itself into a fully vertically-integrated oil and gas company.

In 2001, the company was privatized and listed on the Oslo Stock Exchange as Statoil ASA, although the Norwegian state retained an 81.7% ownership stake. Over time, that stake has been reduced and today the Norwegian government owns about two-thirds of the company. This fact might turn off some American investors who are uncomfortable with a political entity owning such a large stake in a company in which they are invested, but it is a fairly common occurrence in Europe and there are certain advantages to this. The most significant of these is that the presence of a large and stable investor reduces a great deal of the volatility that otherwise comes with companies in the energy industry. This also removes the need for the company to worry about short-term movements in the stock price and instead allows it to focus its efforts on long-term growth. Historically, the Norwegian state has proven itself to be a reasonably good business partner and personally I feel that the advantages outweigh the potential risks in this case.

Earlier this year, Statoil formally changed its name to Equinor to reflect that the company’s operations now consist of far more than fossil fuels. Indeed, the company has recently become a major player in the renewable power industry, most notably in wind and solar energy. It does still retain significant opportunities in the traditional oil and gas space, though. Thus, the company has converted itself into something of an all-around player in the energy industry.

Oil And Natural Gas

Although Equinor has been working to expand beyond its roots as a fossil fuel producer, the company still remains one of the largest producers of oil and natural gas in the world, with the company producing an average of 2.066 million barrels of oil equivalent per day in the third quarter of 2018. This may not seem like much compared to companies like Exxon Mobil (XOM) or BP (BP), but it is still enough to make Equinor one of the largest oil and gas companies in the world.

The company intends to grow this further over the next few years as it brings new projects online at various locations around the world, especially in Brazil and Norway. Over the 2017 to 2020 period, these new projects should allow the company to grow its production at a 3% to 4% compound annual growth rate. As might be expected, this will have a positive impact on the company’s revenues as it will have more products to sell. However, if we continue to see weakness in oil prices, this may offset some of this growth. For the most part though, production growth is a very good thing for energy companies like Equinor and this trajectory is therefore beneficial for investors in the firm.

One underappreciated fact about this company is how it has been greatly expanding its operations outside of Norway. As we can see here, the company’s production on the Norwegian Continental Shelf actually declined year over year but this was more than made up for internationally:

Source: Equinor ASA

This is important because Norway is generally considered to be a mature market. The Norwegian Petroleum Directorate originally predicted that the nation’s production would peak in 2001 and then steadily decline thereafter. While there have been some very large discoveries in Norway since that time, such as Johan Sverdrup, and Equinor has been able to extend the usable life of fields like Troll, the fact remains that the majority of the company’s opportunities in this area of its business lie outside of Norway. Thus, it is good to see that the company is expanding in this direction.

As I discussed in an earlier article, one area in which Equinor has been making an aggressive push is Brazil. This makes sense as the Brazilian pre-salt is one of the most oil-rich areas known, with current estimates putting the volumes of oil in place at around 100 billion barrels of recoverable oil. Equinor is currently planning to invest as much as $15 billion into developing the region’s resources over the next twelve years. This represents a massive expansion over the operations that Equinor has been cultivating in the South American nation since 2001:

Source: Equinor ASA

Perhaps the company’s most prominent asset in Brazil is the Carcara field, which is located in the BM-S-8 offshore block in the Santos basin. This ultra-deepwater field is believed to be one of the largest in the world, with most estimates putting its size at somewhere between 700 million and 1.3 billion barrels of recoverable oil. Some estimates put the amount higher though, at upwards of 3.2 billion barrels. Equinor is the operator of this field and currently plans to bring it to a producing state in 2023 or 2024. This field is just one of many that should prove promising for the company’s long-term prospects.

Offshore Wind And Other Renewables

As I mentioned in the introduction, Equinor has become a major player in the renewable energy industry by investing in solar plants and wind power around the world. The company’s largest renewable energy push, though, has been in offshore wind farms.

Equinor first entered the offshore wind farm space in 2011 when its first project, Sheringham Shoal in the United Kingdom, became operational. Since that time though, the company has either brought online or is developing an additional five farms, mostly located at various sites in Europe. It does still have several more in the planning stages though, including one that is located off of the coast of New York City. It seems likely too that even more potential sites could be added as both energy consumers and governments around the world embrace renewable sources of power.

Financial Concerns

Equinor offers a very strong financial profile. One area we can see this is in the company’s debt, which is remarkably low for a large energy company. At the end of the third quarter, Equinor had $24.173 billion in long-term debt and $1.823 billion of current debt for a total of $25.996 billion. This compares to a total shareowners’ equity of $41.930 billion, which gives the company a debt-to-equity ratio of 0.62.

There are several advantages of having a low debt load, the most important of which is that it improves the company’s ability to weather weak markets. One reason for this is that equity financing requires no repayment and thus allows for a great deal of flexibility. In addition, a low debt-to-equity ratio makes it easier for a company to raise additional debt if it needs new financing for some reason.

Equinor also performs quite well on a cash flow basis as we can see by looking at its free cash flow, which is the amount of cash generated by the company’s ordinary operations after it pays all of its bills and makes all of its capital expenditures. It is normally calculated by subtracting capital expenditures from operating cash flow. In the third quarter of 2018, Equinor had an operating cash flow of $5.417 billion and total capital expenditures of $3.073 billion. This gives the company a free cash flow of $2.344 billion. As Equinor only pays out a dividend of $765 million, we see that the company has more than enough excess cash flow to boost its dividend or do a variety of other things. It also means that there is a significant margin of safety, meaning that the company will not have to cut its dividend in the event of an economic downturn.

Valuation

As I mentioned in the introduction, Equinor is a somewhat underfollowed company and this could be creating an opportunity for investors. This is because the company ends up being undervalued as it certainly appears to be right now. We can see this by looking at the company’s price-to-earnings growth ratio, which is a way of adjusting the more familiar price-to-earnings ratio to account for a company’s forward growth. According to Zacks Investment Research, Equinor is expected to grow its earnings per share at a 22.12% rate over the next three to five years. This gives the stock a price-to-earnings growth ratio of 0.48 at the current price. As a PEG ratio of less than 1.0 is an indication that a stock is undervalued, this is a clear sign that Equinor’s stock is undervalued at the current price.

Conclusion

In conclusion, Equinor is an underfollowed energy giant that offers a great many potential opportunities for investors. The company is active in both fossil fuels as well as the rapidly growing renewable energy sector. The company is also very well capitalized and produces a massive amount of free cash flow. The company also appears to be dramatically undervalued at the current level and therefore this underfollowed company presents a wonderful opportunity for investors.At Energy Profits in Dividends, we seek to generate a 7%+ income yield by investing in a portfolio of energy stocks while minimizing our risk of principal loss. By subscribing, you will get access to our best ideas earlier than they are released to the general public (and many of them are not released at all) as well as far more in-depth research than we make available to everybody. We are currently offering a two-week free trial for the service, so check us out!

Disclosure: I am/we are long EQNR. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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