Inside Wall Street: Oil play to unlock value

Occidential Petroleum looms as potential candidate to spin off some of its assets into more valuable pieces.

By Gene Marcial Jul 8, 2013 4:49PM

Oil Refinery Tanks, Corpus Christi, Texas. Copyright Kevin Burke, CorbisWith crude prices again on the rise, in part because of the renewed violence in Egypt, investors are being drawn back to the oil patch for investment opportunities.


But this time, the search is for oil stocks that aren't just benefiting from rising oil prices, but from value being unlocked by major integrated companies with diverse properties.


One company that's expected to break up its assets to enhance their value and streamline its operations is Occidental Petroleum (OXY), whose management has hinted at splitting its varied resources.


One of the largest U.S. oil and gas companies, Occidental's exploration and production operations aren't confined to the U.S. -- they are spread across the Middle East, North Africa and Latin America. The company is also one of the largest merchant marketers of chlorine and caustic soda in the U.S.  


"With significant presence in the Middle East and North Africa, along with a larger asset base in the Permian Basin, the company's geographic assets offer diverging risk-reward profiles thereby warranting a sum-of-the-parts valuation analysis," says Joseph Cornell, president of Spin-Off Research, who rates the stock a buy.


Based on that valuation methodology, he says, OXY, which is currently trading at $90 a share, is worth $80.9 billion, or $100 a share. OXY's stock is one of the hottest in the oil group this year, outperforming most of its peers, he notes.


The stock hit a 52-week high of $95.57 a share on Jan. 13, 2012, up from a 52-week low of $72.43. Its largest institutional shareholders have held on, it not added, to their stakes, including Vanguard Group, which owned a 5.3% stake as of Mar. 31, 2013, State Street, which holds 4.3%, and Fidelity Management, with 2.7%.


Shares of OXY lagged behind the oil group and the market in the past three years but had outperformed in the previous 10 years. So the stock's recent advance -- which, to some, signifies a strong potential to catch up -- is now attracting long-term investors.


So with its potentially higher valuation from an expected restructuring, other oil-sector watchers have even higher valuations on OXY. Veteran Wall Street oil analyst Fadel Gheit of Oppenheimer, for one, puts the value of OXY at $115 a share. He figures that OXY could soon announce plans to spin off its international operations and use the $20 billion estimated proceeds from selling a large stake in the new company to repurchase 25% of its 811.1 million outstanding shares.


Gheit says OXY believes its California and Permian Basin assets can be spun off into two separate companies, "which will create shareholder value either as public companies or as potential takeover targets."


So he has raised his price target for OXY to $115 a share from $100. The California and Permian Basin assets, once separated as stand-alone companies, are likely to trade at higher multiples than what is currently reflected in the stock, argues Gheit.


If the new companies don't get adequate valuation in the public market, says Gheit, they are likely to attract takeover bids at large premiums. He says the company's chemical operations generate free cash flow and strong income, but isn't large enough to impact the company's valuation. The same is true, he notes, for the trading and midstream segments. And the operations in Columbia, while posting the highest profits per barrel for OXY, "aren't a divestiture candidate as it is unlikely to receive full value," according to the analyst.


Analysts at Societe Generale have also raised their price targets to $115 a share from $99, based on what they expect would be a spin-off of OXY's California assets, sale of its international operations and a $10 billion or more of share repurchases.


It's a case of a "greater deconsolidated value and events" that will drive up the stock, says Societe Generale analysts John Herrfin, Nathan L. Churchhill and Russell Koch.   


"We believe a streamlined asset base with more 'specificity' would garner a market valuation that will rival the prior stock high of $115," the analysts say.


Without doubt, OXY's valuation had been depressed by the unrest in the Middle East. Spin-Off Research's Cornell notes that with its exposure to vulnerable Middle East and North African countries, which had resulted in production halts in these regions especially Libya, "the market began to believe that valuation is depressed and a geographic split would enhance valuation." The company, however, has yet to announce a split of its assets. But once a plan is announced, expectations are that the stock will spearhead upward fast.   


Gene Marcial wrote the column "Inside Wall Street" for Business Week for 28 years and now writes for MSN Money's Top Stocks. He also wrote the book "Seven Commandments of Stock Investing," published by FT Press.

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