Locked in some profits from my oil stocks, but kept Eni (E)

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Introduction

Over the past few months, I have sold most of my energy stocks while locking in some gains. I’ve owned a few Exxon (XOM), Chevron (CVX), Enbridge (ENB), Crestwood Equity The partners (CEQP) and Alerian MLP ETF (AMLP). On the other side, I decided to stay and increase my position in Eni SpA (NYSE:E) for two reasons :

  1. It is still trading at a discount from its pre-Covid price
  2. More importantly, starting next week, he will implement a new dividend policy which I believe will benefit me from the current high oil price.

A company with a key role in Europe

Eni SpA is the Italian oil company, which is one of the so-called seven oil supermajors. After TotalEnergies (TTE), it is the second largest European oil company, with a market capitalization of $50 billion. In the current European energy crisis, the company is playing an important role in diversifying sources to disentangle Europe from its relationship with Russia.

Recently, Eni has strengthened its relations with Algeria, which respectively led to an increase in the supply of 4 billion cubic meters of gas to Italy. In addition, alongside other oil majors such as TotalEnergies, Eni signed a new exploitation contract in the Berkine basin which allowed the exploitation of significant quantities of gas. In Egypt, Eni plays a key role in helping the country become a regional hub for natural gas, thanks to the Zohr field discovered by Eni in 2015, which is, to date, the largest gas discovery ever made in the Mediterranean Sea. In addition, Eni is in talks with Egypt to undertake solar and wind energy projects, with up to 10 GW of installed capacity over the next few years.

In June 2022, Eni also entered into a partnership with QatarEnergy, which makes the Italian company a new international partner for the expansion of the North Field East project, the largest LNG project in the world.

In the same days, Eni started pumping gas from the offshore Coral South field in Mozambique to Sul Coral, a floating liquefied natural gas facility. It is the first FLNG ever installed on the African continent in deep waters. With it, Mozambique joins the ranks of LNG-producing countries and offers additional diversification.

Here is a map that shows all the other agreements signed in the last year and a half by Eni.

Eni source of diversification, Eni share, Eni azioni

Eni website

For this map, we have to consider two recent novellas.

  1. Eni has announced a large gas discovery at the Cronos-1 well off Cyprus with early estimates indicating 2.5 trillion cubic feet of gas available, not including additional discoveries at other nearby wells.
  2. Just a few days ago, Eni added another source when announcing its acquisition of BP’s activities in Algeria, which controls two major gas fields. These two fields, called “In Amenas” and “In Salah” are located south of the Sahara and their production of gas and associated liquids began in 2006 and 2004 respectively. In 2021, they produced around 11 billion cubic meters of gas, 12 million barrels of condensate and LPG.

All this news makes me consider Eni as a strategic player in the current geopolitical environment because it will play a key role not only in the diversification of Italy’s gas sources, but it will also contribute to creating a Mediterranean gas hub for the Europe, as shown in the slide below.

Eni Share

Presentation of Eni 1H 2022 results

As can be seen, Algeria and Congo will both contribute from the end of the coming winter, which will be the most difficult period for Europe in terms of gas supply, because the stored gas will be low and demand still high. This makes the company confident in stating that by 2024 it will have replaced 100% of the current Russian supply.

Currently, the company is in any case able to fulfill all its obligations without using its Russian sources, as the CEO of Eni Descalzi said in the last earnings call:

I would like to point out that the company’s remaining contractual obligation for 2022 can be fully met without any Russian sources and without any additional costs.

Other recent news

In June, Eni said it planned to launch the IPO of Plénitude, which is the company’s renewable energy division. There was great interest in this IPO, but due to deteriorating market conditions, Eni decided to postpone it. Although initially disappointing for many investors, I thought this decision was the right one because it showed two things:

  1. Eni does not need this IPO to raise funds, which shows that it is quite confident about its balance sheet.
  2. With European utilities under pressure, it is better to use the strength of Eni to protect the value of Plénitude until the situation clears up.

Since energy prices are very high, many European governments have decided to tax the extra profits made by energy companies. Eni will also be subject to an exceptional tax of 25% in 2022 which will cost the company 1.4 billion euros, instead of the planned 550 million euros. Even though this is a large amount, you have to keep in mind that it taxes the extra profits, which means that the company is making, like all oil majors, a lot of money this year, as we will see in a moment.

Finance

If we say that Eni works very well, it is not a surprise given the current conditions. As summarized by the company in the slide below, we see a very strong EBIT of €11 billion and a 6x year-over-year net profit of €7.1 billion. Operating cash flow of 10.8 billion euros is already enough to cover more than double the annual dividends that Eni will pay. This is one of the most important data that leads me to write this article and share it with the Seeking Alpha community. But we’ll get to that in a minute.

Eni action, E action, Eni results

Presentation of Eni 1H 2022 results

What is really important is that Eni, despite a huge increase in profits, keeps its investments under control, thus taking advantage of the current situation to further deleverage its balance sheet which currently sees a net debt TTM of 16 billion euros , which is more than covered by TTM’s €26 billion EBITDA.

Eni has also improved its efficiency and reduced its cash neutrality from $45/bbl in 2018 to $40/bbl currently.

New dividend distribution policy

Today, despite high oil prices, Eni has yet to regain its pre-covid price, unlike other peers close to ATH. Although Eni has always been more discounted than other oil companies, I still see that the stock is able to recover at least up to $30.

I think some support for the share price will come from the new dividend distribution policy announced by Eni. Until this year, Eni used to pay its dividend twice a year in May and September. Starting in September, Eni will pay a quarterly dividend in September, November, March and May, making the stock more attractive to investors looking for income.

There are, however, two caveats. The first is that the Italian tax on dividends is 26%. The second is that Eni’s distribution policy, as shown in the graph below, makes the dividend variable depending on oil prices. However, I decided to keep Eni in my portfolio as it currently has a very high yield which I plan to maintain until 2023 as oil prices are expected to remain high.

Now let’s look at the chart and see how Eni’s dividend policy works.

Eni dividend, Eni share, E share

Eni website

Eni’s shareholder remuneration policy is structured as follows. First, the dividend is linked to the oil price scenario assessed in July and then updated in October. For starters, there is an annual dividend floor of €0.36 per share, and it will be paid as long as the price of Brent is at least $43/bbl. It is very unlikely that the price of oil will fall below this benchmark for a long time. The annual dividend per share then increases as follows:

  • €0.41 per share for a reference price of Brent between $44 and $46/bbl
  • €0.49 per share for a reference price of Brent between $47 and $50/bbl
  • €0.61 per share for a Brent reference price between $51 and $55/bbl
  • €0.75 per share for a reference price of Brent between $56 and $60/bbl
  • €0.86 per share for a reference price of Brent between $61 and $79/bbl
  • €0.88 per share for a reference price of Brent between $80 and $90/bbl

Whatever the amount of the dividend, it will be divided by four and paid quarterly, with the first detachment on September 19.

In addition to the dividend, a share buyback program is triggered from a Brent reference price of $56/bbl worth 300 million euros per year. This amount is as follows:

  • 400 million euros per year for a reference price of Brent between $61 and $65/bbl
  • 800 million euros per year for a reference price of Brent between 66 and 79 $/bbl
  • 1.1 billion euros per year for a reference price of Brent between 80 and 90 $/bbl

If we reach a Brent reference price above $90/bbl, Eni will add an additional buyback equivalent to 30% of the associated additional FCF.

However, we are currently in the best scenario with a dividend of and a share buyback program which has been raised from 1.1 to 2.4 billion euros. The buyout is something I’m very fond of right now because Eni, as said above, is not trading at a very high valuation. Regarding Eni’s NYSE shares, the annual dividend is not €0.88, but $1.80. The dividend yield of 8.30%, however, is the same as that of shares traded in Europe.

Since the start of the buyback program, Eni has purchased approximately 1.92% of the share capital for a total amount of 821 million euros. This means that Eni still has 1.6 billion euros to deploy, which is equivalent to an additional 4% of the total market capitalization. Eni said it would complete its takeover by the end of the first quarter of 2023. This leads to an expected annual total return of 12%, which allowed me to stay invested in the stock and actually buy a few more shares recently as the first quarterly dividend approaches.

Conclusion

Eni is of course discounting its variable dividend policy and certain country risks since it is linked to Italy and Europe. However, with a PE of 3 versus a PE of 7.4 and 8.2 for XOM and CVX respectively and a forward EV/EBITDA of 2 versus the 4.2 and 4.8 for the two mentioned above, being given that Eni has a higher return on capital employed of 16.5% compared to 13.6% for XOM and 10.9% for CVX, I think the company is discounted enough to provide a margin of safety while still offering a better return to shareholders for at least a year and a half. That’s why I’m rating it as a buy.

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