Hess Stock Is Skyrocketing - Time for a Value Analysis

One of Wall Street's biggest winners of the day is Hess, a fossil fuel exploration and production company whose shares have climbed 4.4% to a price of $151.6 -- near its average analyst target price of $153.09.

The average analyst rating for the stock is buy. HES outperformed the S&P 500 index by 4.1% during today's afternoon session, and by 75.1% over the last year with a return of 60.3%.

Hess Corporation, an exploration and production company, explores, develops, produces, purchases, transports, and sells crude oil, natural gas liquids (NGLs), and natural gas. The company is classified within the energy sector. The stock prices of energy companies are highly correlated with geopolitics: economic crisis, war, commodity prices, and politics all have an effect on the industry. For this reason, energy companies tend to have high volatility -— meaning large and frequent price swings. As global energy supplies shift towards renewables, we may see a reduced correlation between energy prices and geopolitical events.

Hess's trailing 12 month P/E ratio is 25.2, based on its trailing EPS of $6.02. The company has a forward P/E ratio of 17.4 according to its forward EPS of $8.7 -- which is an estimate of what its earnings will look like in the next quarter.

As of the third quarter of 2022, the average Price to Earnings (P/E) ratio for US energy companies is 9.11, and the S&P 500 has an average of 15.97. The P/E ratio consists in the stock's share price divided by its earnings per share (EPS), representing how much investors are willing to spend for each dollar of the company's earnings. Earnings are the company's revenues minus the cost of goods sold, overhead, and taxes.

The main limitation with P/E ratios is that they don't take into account the growth of earnings. This means that a company with a higher than average P/E ratio may still be undervalued if it has high projected earnings growth. Conversely, a company with a low P/E ratio may not present a good value proposition if its projected earnings are stagnant.

When we divide Hess's P/E ratio by its projected 5 year earnings growth rate, we obtain its Price to Earnings Growth (PEG) ratio of 0.25. Since a PEG ratio of 1 or less may indicate that the company's valuation is proportionate to its growth potential, we see here that investors are undervaluing HES's growth potential .

To gauge the health of Hess's underlying business, let's look at gross profit margins, which are the company's revenue minus the cost of goods only. Analyzing gross profit margins gives us a good picture of the company's pure profit potential and pricing power in its market, unclouded by other factors. As such, it can provide insights into the company's competitive advantages -- or lack thereof.

HES's average gross profit margins over the last four years are 44.4%, which indicate it has a potential competitive advantage in its market. These margins are increasing strongly based on their four year average gross profit growth rate of 42.9%. Hess's financial viability can also be assessed through a review of its free cash flow trends. Free cash flow refers to the company's operating cash flows minus its capital expenditures, which are expenses related to the maintenance of fixed assets such as land, infrastructure, and equipment. Over the last four years, the trends have been as follows:

Date Reported Cash Flow from Operations ($ MM) Capital expenditures ($ MM) Free Cash Flow ($ MM) YoY Growth (%)
2021-12-31 2,890 -1,747 1,143 232.29
2020-12-31 1,333 -2,197 -864 27.21
2019-12-31 1,642 -2,829 -1,187 n/a
  • Average free cash flow: $-302,666,666.70
  • Average free cash flown growth rate: 129.8 %
  • Coefficient of variability (lower numbers indicating more stability): 417.1 %

With its positive cash flow, the company can not only re-invest in its business, it can offer regular returns to its equity investors in the form of dividends. Over the last 12 months, investors in HES have received an annualized dividend yield of 0.9% on their capital.

Another valuation metric for analyzing a stock is its Price to Book (P/B) Ratio, which consists in its share price divided by its book value per share. The book value refers to the present liquidation value of the company, as if it sold all of its assets and paid off all debts.

Hess's P/B ratio indicates that the market value of the company exceeds its book value by a factor of 6, so the company's assets may be overvalued compared to the average P/B ratio of the Energy sector, which stands at 1.45 as of the third quarter of 2022.

With an inflated P/E ratio, an elevated P/B ratio, and an unconvincing cash flow history with an upwards trend, we can conclude that Hess is probably overvalued at current prices. The stock presents poor growth indicators because of its weak and inconstent operating margins with a positive growth rate, and a negative PEG ratio.

The above analysis is intended for educational purposes only and was performed on the basis of publicly available data. It is not to be construed as a recommendation to buy or sell any security. Any buy, sell, or other recommendations mentioned in the article are direct quotations of consensus recommendations from the analysts covering the stock, and do not represent the opinions of Market Inference or its writers. Past performance, accounting data, and inferences about market position and corporate valuation are not reliable indicators of future price movements. Market Inference does not provide financial advice. Investors should conduct their own review and analysis of any company of interest before making an investment decision.