Exxon could weather a dividend cut by announcing a variable dividend policy that would allow it to shift its spending.
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Exxon Mobil is suddenly going from Wall Street afterthought to Wall Street darling. Goldman Sachs just gave the oil giant its second analyst upgrade of the week, recommending that its clients buy the stock.
Goldman’s Neil Mehta outlined the bank’s views on oil and gas for the year ahead late Tuesday and made the case for Exxon (ticker: XOM), which is down 39% over the past year. He argues that the stock has fallen too much and the company is in a good position to improve its cash flow. Mehta had upgraded shares to Neutral from Sell in October.
Part of his thesis has to do with Exxon’s dividend, a key point of contention on Wall Street. Its 8% dividend yield is a major selling point for the stock. The company says its latest strategies—which include capital and operating cost cuts—will allow it to “maintain a reliable dividend.” But the market already seems to be pricing in a dividend cut for Exxon, Mehta writes. In fact, the options market appears to be pricing in a 70% cut by 2022, Goldman’s derivatives strategists say. Its yield has risen above 10% at times this year.
While a cut would be big news, the fact that Wall Street is pricing it in means that the stock might not drop very much if it happens, Mehta argues.
Mehta writes that Exxon could weather a dividend cut by announcing a variable dividend policy that would allow it to shift its spending, depending on oil markets. Devon Energy (DVN) and Pioneer Natural Resources (PDX) have announced similar policies, and analysts have generally liked the idea. Fixed-dividend policies have resulted in large cuts in recent months for companies like Royal Dutch Shell (RDS.A) and BP (BP), shaking investors’ confidence in those stocks.
“In our view, a variable dividend strategy could enable the company to reduce the need for increasing debt at the bottom of the cycle and drive outsized capital returns to shareholders in better pricing environments,” Mehta writes.
Exxon stock trades at 10.1 times Goldman’s 2022 earnings estimates, down from its historical valuation of 15 times. It’s one of the top 10 most underweight stocks in mutual fund portfolios, implying that a change in sentiment could quickly cause buyers to jump back in. Using a valuation method that includes both cash flow and earnings, Mehta values shares at $52 each.
Exxon stock was up 2.3%, at $44.03, in recent trading. The S&P 500 was up 0.1%.
It’s worth noting that Goldman has one of the most bullish oil forecasts in the market, projecting $65 Brent crude in 2022, up from $51 today.
Write to Avi Salzman at [email protected]
