Rising oil prices are weighing on the refining business as higher input costs squeeze margins. Additionally, a slowdown in oil production growth is likely to reduce profits from the upstream operations of integrated energy companies. The increasing demand for renewable energy is also casting a shadow over the future of the Zacks Oil & Gas US Integrated industry, making the outlook increasingly uncertain.
Among the companies in the industry that will probably survive the business challenges are Cactus Inc. WHD, Berry Corporation BRY and Epsilon Energy Ltd. EPSN.
About the Industry
The Zacks Oil & Gas US Integrated industry comprises companies primarily involved in upstream and midstream energy businesses. The upstream operations entail oil and natural gas exploration and production in the prolific shale plays of the United States. The integrated energy companies are also engaged in midstream businesses through gathering and processing facilities along with transportation pipeline networks and storage sites. Overall, the upstream business is positively correlated to oil and gas prices. The produced commodity volumes are transported through midstream assets, generating stable fee-based revenues. The integrated energy players in the United States also have access to downstream operations wherein the transported oil volumes are converted to finished products, comprising gasoline, natural gas liquids and diesel, through refining activities.
3 Trends Shaping the Future of the Industry
Refining Business Grapple With Cost Pressures: With oil prices hovering around the $70 per barrel mark, integrated energy companies are facing significant pressure on their refining businesses. The higher cost of crude oil, a key input for producing end products like gasoline and jet fuel, is raising production costs for refiners. This rise in input costs makes it more challenging for refiners to maintain profitability, as they either have to pass these costs on to consumers or absorb them, both of which can negatively impact their financial performance.
Slowdown in Production Growth to Hurt Upstream Business: There has been a slowdown in oil production growth in the upstream businesses of integrated energy companies in the United States, driven by shareholder demands for a greater focus on returning capital rather than investing in production expansion. As production growth slows, output decreases, which can lead to reduced revenues. Since upstream operations depend heavily on volume to generate income, any stagnation in production growth has a direct and negative impact on their bottom line.
Growing Demand for Renewables a Concern: Governments, investors and stakeholders are placing growing emphasis on addressing climate change, leading to an increased demand for renewable energy. Consequently, the demand for products reliant on oil, natural gas and natural gas liquids is expected to decline, with solar and wind energy gaining prominence in the energy landscape. These trends adversely impact the integrated energy firms, which are primarily engaged in the production and transportation of fossil fuels, such as oil, and selling refined petroleum products.
Zacks Industry Rank Indicates Bearish Outlook
The Zacks Oil & Gas US Integrated industry is a 16-stock group within the broader Zacks Oil - Energy sector. The industry currently carries a Zacks Industry Rank #209, which places it in the bottom 16% of more than 250 Zacks industries.
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates dull near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperform the bottom 50% by a factor of more than 2 to 1.
Before we present a few stocks that you may want to consider, let’s take a look at the industry’s recent stock market performance and valuation picture.
Industry Lags S&P 500 & Sector
The Zacks Oil & Gas US Integrated industry has underperformed the broader Zacks Oil - Energy sector and the Zacks S&P 500 composite over the past year.
The industry has declined 9.2% over this period against the broader sector’s growth of 6.6% and the S&P 500’s surge of 39.2%.
One-Year Price Performance
Industry's Current Valuation
Since oil and gas companies are debt-laden, it makes sense to value them based on the EV/EBITDA (Enterprise Value/ Earnings before Interest Tax Depreciation and Amortization) ratio. This is because the valuation metric takes into account not just equity but also the level of debt.
On the basis of the trailing 12-month enterprise value-to-EBITDA (EV/EBITDA) ratio, the industry is currently trading at 4.61X, lower than the S&P 500’s 19.51X. It is, however, higher than the sector’s trailing 12-month EV/EBITDA of 3.37X.
Over the past five years, the industry has traded as high as 13.72X and as low as 3.32X, with a median of 5.09X.
Trailing 12-Month Enterprise Value-to EBITDA (EV/EBITDA) Ratio
3 US Integrated Oil Stocks to Keep a Close Eye On
Berry Corporation
Berry is primarily involved in exploration and production activities, with its operations spreading across low-decline, long-lived oil and gas reserves in California and Utah. BRY, currently carrying a Zacks Rank #3 (Hold), can comfortably sail through a volatile energy business environment, banking on its strong liquidity and fortress balance sheet.
Price and Consensus: BRY
Cactus
The high crude pricing scenario is favorable for Cactus since the company is engaged in selling or renting its products for drilling and completing onshore unconventional oil and gas wells. Cactus, with a Zacks Rank of 3, is dedicated to minimizing its own environmental impact, as well as that of its industry.
Price and Consensus: WHD
Epsilon Energy
Epsilon Energy is a well-known energy player with its operations focused on oil and natural gas exploration and production. The #3 Ranked company has a strong footprint in prolific resources in the United States like Permian and Marcellus shale plays. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Price and Consensus: EPSN
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