Oxy Earnings: Cost-Efficient Production and Low Operating Expenses Create Solid Results

Key Morningstar Metrics for Occidental Petroleum

• Fair Value Estimate: $58.00
• Morningstar Rating: 3 stars
• Morningstar Economic Moat Rating: None
• Morningstar Uncertainty Rating: Very High

What We Thought of Occidental Petroleum’s Earnings

Occidental Petroleum OXY saw solid second-quarter results. Total hydrocarbon production of 1,258 thousand barrels of oil equivalent per day, or mboe/d, marginally exceeded the midpoint of guidance, but we were anticipating modest production outperformance. Even so, its strong production was carried out in a cost-efficient manner.

Lease operating expenses in particular fell faster than we anticipated. This helped Oxy’s overall costs come in 7% below our expectations, which translated to better-than-expected earnings. Management effectively raised guidance since it maintained its outlook, even with the expected divestiture of 15 mboe/d. Therefore, we raise our fair value estimate to $58 per share, relatively in line with the stock’s performance following results.

Strong production in the exploration and production industry is primarily driven by reservoir quality, in our view, and the Delaware is a premier US shale asset. That said, at least part of Oxy’s cost-efficient production appears to be driven by its secondary development in the Delaware, which leverages existing infrastructure to improve asset returns. While we typically think of operating initiatives as transitory in the space, this strategy seems to work well for Oxy, as it now boasts better production rates than industry averages in the basin. In fact, a majority of the production outperformance relative to prior guidance was due to results in the Permian.

Cost-efficient production is also good for shareholders because all else being equal, it translates to stronger free cash flow. During the quarter, free cash flow (before working capital) of $1.3 billion exceeded our expectations of $1.2 billion. While some calls on cash favor the bondholder and will go toward debt reduction efforts, management did return roughly $370 million to shareholders, mostly in the form of dividends.