Why ConocoPhillips Is the Energy Sector's Best Bargain

NEW YORK (TheStreet) – With 17% year-to-date investment returns, ConocoPhillips (COP) shareholders have few reasons to complain. The energy sector -- although improved -- has yielded gains of only 11%.

Shares closed Tuesday at $80.42, up nearly 14% for the year to date. 

Conoco's management deserves praise for the company's quicker-than-expected turnaround following its 2012 spinoff of its refining business, now Phillips66 (PSX). But the company is not done and remains committed to extracting more value for its investors.

The Conoco of today has a business that is easier to understand. After exiting out of the unpredictable downstream business, the company has become a pure play energy and exploration (E&P) company. Management's wants to capitalize on the expected recovery in U.S. energy production.

Even more impressive, despite Conoco's year-to-date outperformance, the stock is still cheap. Shares are trading at a P/E of 11, which is eight points higher than the industry average P/E of 19. Consider, both BP (BP) and Exxon Mobil (XOMtrade at higher valuations. This is even though both trail Conoco in gross margin, operating margin and revenue growth.

I think Conoco management is unfazed, however. They weren't available for comment on the valuation or how the company's progress is viewed on Wall Street.

From my vantage point, Conoco is one of the best bargains in energy. Even based on 2015 estimates of $6.60, these shares are only trading at a P/E of 12 -- still under the industry average. At around $98 per share, investors looking for a strong oil producer should consider Conoco. These share should reach $110 in the next 12 to 18 months.

The reason for my optimism is simple. First, at some point Conoco will surpass large exploration and production titans like Apache (APA) and Anadarko (APC). The company continues to make progress in the Eagle Ford Shale, which now accounts for roughly 25% of its production in the lower 48 states. This is one more example of how the company is moving in the right direction.

Investors should also be encouraged by the ongoing investments management is making in areas like natural gas, which should pay handsome dividends over the next couple of years.

Plus, with ongoing production improvements and market share gains from Eagle Ford Shale, Conoco should enjoy meaningful cash-flow growth in the coming years. When there is ample cash, management will reward investors with higher dividend -- one that currently pays a yield of 3.5%.

Last but not least, unlike, say, Chevron (CVX) or Exxon, Conoco has not been as active in buying back its stock. At some point, that will change. As I've pointed out, these shares are significantly undervalued relative to Conoco's peers. Investors should expect Conoco to be come more active in the next couple of quarters, affirming why now is the best time to buy.

At the time of publication, the author held no positions in any of the stocks mentioned, although positions may change at any time.

Follow @Richard_WSPB

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

TheStreet Ratings team rates CONOCOPHILLIPS as a Buy with a ratings score of B. TheStreet Ratings Team has this to say about their recommendation:

"We rate CONOCOPHILLIPS (COP) a BUY. This is driven by a number of strengths, which we believe should have a greater impact than any weaknesses, and should give investors a better performance opportunity than most stocks we cover. The company's strengths can be seen in multiple areas, such as its revenue growth, attractive valuation levels, increase in net income, largely solid financial position with reasonable debt levels by most measures and solid stock price performance. We feel these strengths outweigh the fact that the company has had somewhat disappointing return on equity."

Highlights from the analysis by TheStreet Ratings Team goes as follows:

  • COP's revenue growth has slightly outpaced the industry average of 2.1%. Since the same quarter one year prior, revenues slightly increased by 3.5%. This growth in revenue does not appear to have trickled down to the company's bottom line, displayed by a decline in earnings per share.
  • CONOCOPHILLIPS reported flat earnings per share in the most recent quarter. This company has reported somewhat volatile earnings recently. But, we feel it is poised for EPS growth in the coming year. During the past fiscal year, CONOCOPHILLIPS increased its bottom line by earning $6.43 versus $5.90 in the prior year. This year, the market expects an improvement in earnings ($6.51 versus $6.43).
  • The net income growth from the same quarter one year ago has exceeded that of the S&P 500, but is less than that of the Oil, Gas & Consumable Fuels industry average. The net income increased by 1.5% when compared to the same quarter one year prior, going from $2,050.00 million to $2,081.00 million.
  • The current debt-to-equity ratio, 0.38, is low and is below the industry average, implying that there has been successful management of debt levels. Although the company had a strong debt-to-equity ratio, its quick ratio of 0.90 is somewhat weak and could be cause for future problems.

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