With an average analyst rating of hold, Occidental Petroleum is clearly not a favorite. But some of the best stock picks are contrarian in nature. With most analysts more focused on growth than on value, a mediocre analyst rating does not necessarily mean a stock is a bad investment. So what do we know about OXY's valuation?
Over the last year, Occidental Petroleum shares have moved 11.4% while trading between the prices of $55.12 and $71.19. This represents a -14.5% difference compared to the S&P 500, which moved 25.9% over the last 52 weeks.
At its current price of $60.92 per share, OXY has a trailing price to earnings (P/E) ratio of 17.6 based on its 12 month trailing earnings per share of $3.46. Considering its future earnings estimates of $4.66 per share, the stock's forward P/E ratio is 13.1. In comparison, the average P/E ratio of the Energy sector is 14.36 and the average P/E ratio of the S&P 500 is 27.65.
Occidental Petroleum's P/E ratio tells us how much investors are willing to pay for each dollar of the company's earnings. The problem with this metric is that it doesn't take into account the expected growth in earnings of the stock. We can solve this problem by dividing the trailing P/E ratio by the company's five year earnings growth estimate, which in this case gives us a 1.96 Price to Earnings Growth (PEG) ratio.
A PEG ratio between 0 and 1 indicates a potentially undervalued stock. This metric is useful because some companies have a low P/E ratio for a reason: there is no earnings growth potential in the stock. Other companies may have high P/E ratios, but may still be undervalued if they have very high expected earnings growth rates. The main caveat with the PEG ratio is that it relies on the company's earnings growth estimates, which are potentially subject to manipulation.
We can also compare the ratio of Occidental Petroleum's price to its book value. A company's book value refers to its present equity value: what is left when we subtract its liabilities from its assets. OXY has a book value of 2.4, with anything close or below one indicating a potentially undervalued company.
A comparison of the share price versus company earnings and book value should be balanced by an analysis of the company's ability to pay its liabilities. One popular metric is the Quick Ratio, or Acid Test, which is the company's current assets minus its inventory and prepaid expenses divided by its current liabilities. Occidental Petroleum's quick ratio is 0.516. Generally speaking, a quick ratio above 1 signifies that the company is able to meet its liabilities.
The final element of our analysis will touch on Occidental Petroleum's capacity to generate cash for the benefit of its shareholders or for reinvesting in the business. For this, we look at the company's levered free cash flow, which is the sum of all incoming and outgoing cash flows, including the servicing of current debt and liabilities. Occidental Petroleum has a free cash flow of $6.04 Billion, which it uses to pay its shareholders a 1.2% dividend.
By most metrics, Occidental Petroleum is an undervalued stock. So why are analysts giving it a low rating? It probably has to do with their perception of its limited growth potential, as represented by its elevated PEG ratio. For growth-oriented investors, OXY is cheap for a reason. On the other hand, diehard value investors believe that if you wait long enough an undervalued stock will always reach a fair valuation. We will continue to monitor the stock to see which thesis prevails.
