OXY: Opportunity to Invest on Better Terms Than Those Berkshire Received

Brian Pitkin of URI Capital Management presented his in-depth investment thesis on Occidental Petroleum (US: OXY) at Best Ideas 2020.

Thesis summary:

Occidental Petroleum: Much consternation followed the terms Occidental Petroleum accepted with the $10 billion Berkshire preferred equity investment to help fund the acquisition of Anadarko. Billionaire investor Carl Icahn said Oxy was “taken to the cleaners.” With Oxy’s common shares at levels not seen since 2005, down over 40% since just this past April and down 35% since Berkshire struck its financing, opportunity at the cleaners knocks again.

While investors have driven Oxy to $39, today, Oxy common shares can be bought at a level where the current cash dividend is higher than the Berkshire preferred and where capital appreciation starts right now, rather than at $62.50 for the Berkshire warrants. While clearly not apples to apples, the significant declines in Oxy’s share price presents an opportunity for high current cash returns and outsized capital appreciation potential.

The dividend appears to be safe, and Oxy is committed to returning money to shareholders with a commitment to not only maintaining but growing its dividend. The company grew the dividend through the recent oil downdrafts a few years ago and has laid out its ability to fully fund its 2021 sustaining capex and dividend with WTI at $40 while its 2020 oil production has been largely hedged. With WTI near $60 today, the cash flow from the combined Oxy and Anadarko assets including $3.5 billion in annual cost and capital reductions, will far outpace the dividend allowing for dividend increases, deleveraging and ultimately reinstated buybacks once leverage targets are met.

While a greater than 8% yield for a dividend that is covered by the newly combined company cash flows is certainly attractive, is the dividend alone worthy of investment? No, but it helps.

There are countless variables to assessing new Oxy’s pro forma annual cash flow but $5 billion per year is a reasonable jumping off spot once the cost and capital reductions are in place and assuming oil prices in the neighborhood of current levels. With 893 million shares outstanding post the Anadarko deal, free cash flow per share would equate to $5.60 per share. A reasonable 10x multiple of free cash flow brings fair value to $56 per share. Moving into 2021 and beyond we can see free cash flow extend beyond $5 billion.

Clearly higher oil will drive higher cash flow while the opposite holds true as well. With downside protection to $40 WTI covering both sustaining capital investment and the dividend, the possibility for significantly higher cash flows exists at current and higher WTI levels.

With a share price around $39, there is meaningful upside to near-term fair value bringing solid total return potential when including the dividend. And, as will be discussed, cash flows and fair value should increase further in the years ahead.

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About the instructor:

Brian E. Pitkin founded URI Capital Management to follow his long time passion for deep business analysis and long term value investing. Brian began his career in Investment Banking at Merrill Lynch in Chicago, and then joined The Edgewater Funds, a Chicago private equity firm. Brian ultimately returned to family-owned Ulrich Chemical, a Midwest chemical distributor where he helped accelerate both top and bottom line growth, including a near tripling of the company’s bottom line. He then helped negotiate and execute the sale of Ulrich to Brenntag, a global chemical distributor, before leaving to start his own ventures, now dominated by managing the fund URI Capital Partners. His background in both investing and managing businesses has contributed to his understanding of what makes for a successful business and thus a successful long term investment, while faith and family provide a strong foundation for the entirety of his life. URI Capital Partners is a long only investment fund focused on a highly concentrated portfolio of publicly traded companies. While our concentrated, long only strategy may present more volatility in the short term, we are not willing to sacrifice higher potential longer term returns for a more comfortable journey. Investing in enduring businesses at good valuations, avoiding leverage, and requiring margins of safety serves to solidify our foundation and protect investor dollars.