9 Reasons To Buy Chevron (And 3 Risks To Watch)

• Chevron Corporation CVX shares are down 33 percent year-to-date, and are currently trading close to the lower end of their 52-week range of $69.58 - $125.70.
• Deutsche Bank’s Phil Gresh upgraded the rating for the company from Neutral to Overweight, while reducing the price target from $90 to $86.
• Following the decline in the company’s shares, Gresh believes that the stock now reflects the concerns surrounding project execution and dividend cut risk.

Analyst Phil Gresh commented, “we believe that the stock is now discounting the bear thesis around project execution and dividend cut risk, with sell side pessimism also at 10-year highs.”

In the report Deutsche Bank noted nine reasons why Chevron would outperform:

1. CVX is highly out of favor among large cap energy names: Sentiment for the company appears to be “at the lowest level in a decade.” Gresh believes this is largely due to execution issues and concerns around dividend safety. He added, “We think the dividend is secure (and could even go up), while execution should improve in 2016.”
2. While the leverage delta has been large, the balance sheet is still top tier – Chevron’s net debt to cap was 8.5 percent, and is expected to rise about 650bps to ~15 percent by yearend and could peak at 19.0 percent in 2017. This is “clearly still top-tier, bigger picture,” Gresh noted.
3. The risk of a dividend cut is near zero: Chevron’s balance sheet is robust, it could reach full FCF/dividend coverage in 2018 and it has a 27-year track record of dividend hikes.
4. Execution issues are well understood and discounted: “As a result, we have de-risked our 2017E production to ~2.9mmboepd (guidance ~3.1mm), with 2018E also <3.05mm,” the report stated.
5. FCF should improve and cover dividend, even if it increases: The analyst expects the company’s FCF to improve to ($2.3B) in 2016, to $6.1B in 2017 and to $8.9B in 2018, versus an estimated $8.9B of dividend in 2018, assuming a ~3 percent CAGR.
6. Relative sustaining FCF yield valuation getting favorable: “Using a peer average sustaining FCF yield target of 5.5% on 2018E, CVX shows 22% total return potential (group average 15%),” Gresh wrote.
7. Relative price/tangible book could provide supportive floor, as incremental write-off risk is low: Gresh believes that most of the charges have been accounted for in Q2 and new projects that are coming online “have such a long life that they are unlikely to get clipped by any near-term asset impairment tests.”
8. Longer term production growth and cash margins should remain top tier: The analyst expects a top-tier production CAGR of 4.2 percent for 2014-2018, as compared to the group average of 2.7 percent.
9. Incremental opex and capex reduction opportunities still exist: Chevron announced plans to take out $3B in costs. Gresh believes this is “conservative” and estimates an additional $1-2B in after-tax cost reduction potential.

The Deutsche Bank report also mentioned three key risks:

• Oil markets remain under pressure
• Execution continues to miss our low bar
• Oil recovers, but LNG does not

Chevron’s shares are down 43 percent since June 2014 and it gives investors “a chance to buy the stock at trough-like fundamentals and sentiment, with an opportunity to claw back relative underperformance over time,” Gresh added.