Chevron Stock’s Fundamental Issues Outweigh Its Upside Potential

Dividend Stocks

Investors fortunate enough to have bought Chevron (NYSE:CVX) stock at its March 23 low of $54.22 per share have made a very nice return. Since then, Chevron stock rebounded nicely to trade in the low-$90s for the past month. At $91.70, there’s a lot of upside between here and $120, which is where CVX traded for basically all of 2019.

Chevron's headquarters shown at 500 Fifth Avenue SW street.

Source: Jeff Whyte / Shutterstock.com

Share prices may very well rise to meet those pre-pandemic levels. And investors will continue to pile on considering its potential upside. But even if they do, I’d stay away from Chevron for several reasons.

Chevron Stock Revenue Per Share Continues Sliding

Investors like to see revenue per share within a given company rise. After all, they give their money to companies for shares of stock. The underlying premise is that companies will invest it wisely, producing increasing revenue, and ultimately, rising stock prices.

But Chevron stock’s revenue per share has been doing the opposite for the past five years. And that should make investors think twice. Chevron does not have the ability to make money as easily as it did in the past. The dual shocks of recent oil price wars and coronavirus put that truth in stark contrast for the entire oil industry. Not just Chevron. But even before the recent shocks, signs like Chevron’s sliding revenue per share year-after-year pointed to the same conclusion …
Oil’s heyday has likely passed.

Fossil fuel pundits will point to alternative energy, and its inability to thus far supplant oil, to counteract the idea that oil is on the decline. They’ll also project that oil will have a resurgence in the coming years because crude prices are near decade lows. And while oil may rise again, the trend toward a more varied energy landscape is an irreversible one. Chevron’s stock will feature heavily in this conversation.

Gross Margins Are Slipping

To be fair, oil has been having a rough go of it over the last several years. So, Chevron does deserve some leeway in that its industry faces strong external headwinds. But gross margins have been decreasing 5.7% long-term. That means the cost of goods sold has increased relative to revenue. Put another way, it has cost Chevron more and more to make a dollar, each of the past five years. Investors want to buy shares in companies that adapt efficiently, finding new revenue in changing times. Chevron hasn’t been able to do that.

Being an Aristocrat Isn’t Always Great

The company is a member of the so-called dividend aristocrats. As per Investopedia, the dividend aristocrats are companies distinguished by having paid increasing annual dividends for the past 25 years.

>Being a dividend aristocrat is viewed positively by the market. The expectation is that these companies will continue to do what they have done for such a long period of time — consistently increase their dividends.

Part of the reason such established companies pay dividends is as an enticement to investors. Dividend aristocrats are not companies that are going to grow at a fast pace. Such days are well behind these companies. Investors do not purchase a Chevron or a Procter & Gamble (NYSE:PG) with the expectation of making a significant return on investment via stock price appreciation. Rather, investors purchase these companies under the assumption that dividend income will flow therefrom. And it does — but this predictability comes at a cost.

Chevron Stock’s Payout Ratio Is Unhealthy

Chevron’s dividend payout ratio is among the weakest in the oil and gas industry over the past decade-plus. This puts Chevron’s management between a rock and a hard place. Investors love Chevron’s dividends, but management is hamstrung by them. InvestorPlace’s Thomas Neil sees the same inherent dividend problem facing Chevron, adding that recent stock gains are likely to taper off.

The problem for Chevron and the other dividend aristocrats is simple. These companies must prioritize dividends each quarter, no matter the circumstances. That gets expensive, and it means that Chevron has to sacrifice that cash for the dividend even when there are other needs within the company. Because the market will react swiftly to punish dividend stocks that unexpectedly miss a dividend payout.

There’s little risk of Chevron reducing or missing a dividend soon. But that’s not really what’s important. The more cash Chevron has to earmark quarter after quarter to pay ever increasing dividends, the less it has to reinvest in the company. For Chevron (a company in a changing industry), such cash could otherwise be directed toward investments that improve efficiency, gross margin and revenue per share.

Bottom Line on Chevron

Fundamental stock analysis views all of the problems listed above as red flags. These warning signs don’t bode well for Chevron in the medium to long term. As an investor, such factors should give you pause when deciding whether to add Chevron to your portfolio.

Technical analysts will view Chevron based much more on the movement of stock’s recent price with less regard for underlying financial indicators. And neither school of thought is inherently wrong or right. Each investor views the market through their own particular lens.

Personally though, in judging a mature stock like Chevron, I like to first see fundamentally sound financials, and then positive technical indicators. In this case, I see little of the former, giving me no reason to search for any of the latter.

As of this writing, Alex Sirois did not hold a position in any of the aforementioned securities.

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