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Michael McDonald

Michael McDonald

Michael is an assistant professor of finance and a frequent consultant to companies regarding capital structure decisions and investments. He holds a PhD in finance…

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Why Investors Should Take Note Of Total’s Transformation

Why Investors Should Take Note Of Total’s Transformation

As the Greek drama plays out, it is having a crushing effect not only on European stocks in general, but especially on energy stocks as well, given concerns about reduced global demand.

Investors looking for value in an expensive global stock market should see opportunity here. In particular, stocks at the nexus of energy and Europe are likely to be especially hard hit, but will also represent a better investment opportunity if world economic growth continues at a reasonable clip going forward.

Among major European energy firms, there are a number of strong choices including Royal Dutch Shell and BP. However, one firm that is often overlooked among energy majors is perhaps an even better play. That company is French giant Total S.A. Related: Oil Price Plunge Raises Fears for Indebted Shale Companies

Total is more appealing than many of its peers because the company is taking an aggressive approach to transforming itself to deal with the new realities of the oil price market. It may be many years before the world sees oil consistently above $100 a barrel again, and companies need to adjust to this new era. Total announced earlier this year that the firm would try to sell $10 billion in assets by 2017 including $5 billion this year. Slimming down the firm’s profile to focus on the most profitable projects helps to improve financial flexibility, and should give investors more confidence in Total’s hefty 5.5 percent dividend.

Total seems to be making good on its vow to sell assets, as Bloomberg recently reported that the French giant is in talks to sell a gas pipeline in the North Sea to ArcLight Capital Partners, a U.S. private equity firm. The natural gas pipeline in question is a solid asset, transporting gas from the North Sea to St. Fergus in Scotland. Bloomberg cited a valuation of as much as $1 billion on the pipeline, and that makes sense in the context of other developments in the market right now. Related: Spanish Government To Tax Solar Power

Exploration assets like producing wells and undeveloped acreage appear to have a relatively wide bid-ask spread given the dearth of deals so far. In contrast, the steady cash flow of a pipeline seems to be more appealing for buyers if the William’s Companies drama is any indication.

Total is moving forward with developing other promising projects like the Elk-Antelope joint venture in New Guinea. On the basis of what analysts see as a radical company transformation, Total is rapidly adjusting to the new oil price cycle. The company is likely to see roughly $8 billion in cash generation in 2015 as a result of cost reductions, and a breakeven oil price of about $40 per barrel. Related: OPEC Still Holds All The Cards In Oil Price Game

This sets the stage for perhaps $10 billion in free cash flow annually by 2017, and widening operating margins resulting from deflation in supply chain costs and strong European refinery margins. Recent earnings releases support the view of a company that is aggressively responding to the new environment and one which should be very profitable for investors under most conceivable scenarios.

Total’s stock has been hammered by the oil market issues, and the Greek crisis is only adding to those worries. Still, investors taking the long view should look at such concerns as opportunities and may want to consider taking a position in TOT.

By Michael McDonald of Oilprice.com

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