The Zacks Oil and Gas - Exploration and Production - International industry is facing several bearish trends that could put pressure on overall performance. A sluggish consumption pattern in some regions has led OPEC to revise down its global oil demand growth projections for 2024 and 2025 for the third time in a row. Moreover, the accelerating shift toward renewable energy and electric vehicles (EVs) is likely to further dampen traditional oil demand. The escalating tensions in the Middle East, too, have failed to prop up the market. Despite these challenges, international upstream operators are adapting by prioritizing shareholder returns. Firms are leveraging strong free cash flow and reducing capital expenditures, channeling excess cash into dividends and buybacks. Among these, Kosmos Energy KOS, VAALCO Energy EGY and Capricorn Energy CRNCY stand out as resilient investments that are well-positioned to navigate the current headwinds.

Industry Overview

The Zacks Oil and Gas - International E&P industry consists of companies primarily operating outside the United States and focused on the exploration and production (E&P) of oil and natural gas. These firms find hydrocarbon reservoirs, drill oil and gas wells, and produce and sell these materials to be refined later into products such as gasoline, fuel oil, distillate, etc. The economics of oil and gas supply and demand is the fundamental driver of this industry. In particular, a producer’s cash flow is determined by realized commodity prices. In fact, all E&P companies are vulnerable to historically volatile prices in the energy markets. A change in realizations affects their returns on drilling inventory and causes them to alter production growth rates. These operators are also exposed to exploration risks where drilling results are uncertain.

4 Key Investing Trends to Watch in the Oil and Gas - International E&P Industry

OPEC's Cautious Tone: In its latest Oil Market Report, the organization revised its global oil demand growth projections for 2024 and 2025, marking the third consecutive month of downward adjustments, primarily due to weaker usage in China. The group now expects demand to rise by 1.93 million barrels per day (bpd) in 2024, down from the previous estimate of 2.03 million bpd.

Oil’s Q3 Descent: The third quarter of this year saw oil prices taking a significant hit, dropping approximately 17%. While initial fears of supply disruptions stemming from escalating Middle East tensions seemed poised to push prices upward, the global demand picture painted a different story. Investor sentiment began to shift as weakening economic signals, particularly from key regions like China, started to overshadow supply concerns. The overall decline reflects the complex dynamics that currently define the global oil market.

Substantial Shareholder Returns: Despite gyrations in the energy market, upstream operators continue to give back cash to stakeholders. In particular, cash from operations is on a sustainable path, with revenues stabilizing and companies slashing capital expenditures from the pre-pandemic levels amid commodity realizations at a healthy enough level for market participants. To put it simply, efficiency improvements over the past few years helped the E&P firms generate significant “excess cash,” which they intend to use to boost investor returns. In fact, more and more energy companies are allocating their increasing cash pile by way of dividends and buybacks to pacify the long-suffering shareholders.

Renewables and EVs: Long-Term Risks to Oil Demand: The push toward renewable energy and the rise of electric vehicles (EVs) pose significant long-term risks to traditional oil and gas demand. Despite the current slow infrastructure development, advancements in renewables and increased EV adoption could reduce fossil fuel dependency, pushing oil prices downward. The renewable energy sector, despite facing high capital costs now, may overcome these hurdles, potentially leading to reduced oil demand by the next decade.

Zacks Industry Rank Reflects Bearish Outlook

The Zacks Oil and Gas – International E&P industry is an eight-stock group within the broader Zacks Oil - Energy sector. It currently carries a Zacks Industry Rank #186, which places it in the bottom 26% of 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates challenging near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s position in the bottom 50% of the Zacks-ranked industries is a result of a negative earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are becoming pessimistic about this group’s earnings growth potential. As a matter of fact, the industry’s earnings estimates for 2024 have gone down 71.5% in the past year.

Despite the dull near-term prospects of the industry, we will present a few stocks that you may want to consider for your portfolio. But it’s worth taking a look at the industry’s shareholder returns and current valuation first.

Industry Underperforms Sector & S&P 500

The Zacks Oil and Gas - International E&P industry has fared worse than the broader Zacks Oil - Energy Sector as well as the Zacks S&P 500 composite over the past year.

The industry has declined 36.5% over this period compared with the broader sector’s decrease of 1.1%. Meanwhile, the S&P 500 has gained 33.2%.

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. For capital-intensive companies, EV/EBITDA is a better valuation metric because it is not influenced by changing capital structures and ignores the effect of non-cash expenses.

On the basis of the trailing 12-month enterprise value-to EBITDA (EV/EBITDA) ratio, the industry is currently trading at 3.65X, significantly lower than the S&P 500’s 19.49X. However, it is 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 9.60X, as low as 2.19X, with a median of 4.30X.

Trailing 12-Month Enterprise Value-to EBITDA (EV/EBITDA) Ratio (Past Five Years)

3 Oil and Gas - International E&P Stocks to Watch

Kosmos Energy: Kosmos Energy is an oil and gas explorer focused on offshore Ghana, Equatorial Guinea and the U.S. Gulf of Mexico. The dual-listed (NYSE & London) company’s low-cost assets, growing free cash flow generation and solid balance sheet are likely to increase shareholder returns.

Kosmos Energy’s Value Score of B indicates it would be a good stock to focus on for value investors. Valued at around $2 billion, KOS currently carries a #3 (Hold). Kosmos Energy’s shares have fallen around 45% in a year.

You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Price and Consensus: KOS

VAALCO Energy: Founded in 1985, VAALCO Energy’s productive capacity is based offshore West Africa, where it focuses on growth through a combination of acquisitions and active drilling. The operator of the Gabon offshore Etame license, EGY is known for its operational excellence and cost discipline, which are expected to generate significant free cash flows at the current strip pricing.

The 2024 Zacks Consensus Estimate for VAALCO Energy’s earnings indicates 4.8% year-over-year growth. Valued at around $615.2 million, EGY wrapped up the acquisition of Sweden-based Svenska Petroleum Exploration earlier this year. Currently carrying a Zacks Rank of 3, VAALCO Energy’s shares have gained around 34.5% in a year.

Price and Consensus: EGY

Capricorn Energy: Founded in 1981, Capricorn Energy’s productive capacity is based onshore Egypt, where it focuses on the lower-cost rapid-payback Western Desert. CRNCY’s attractive asset base and operational efficiency in the country provide it with a competitive advantage in an energy-hungry domestic and regional market.

Over the past 60 days, the Zacks Consensus Estimate for Capricorn Energy’s 2024 earnings per share has jumped 255.6%. Valued at around $201.8 million, CRNCY is currently a Zacks #1 Ranked company. Capricorn Energy’s shares have gone down around 24.4% in a year.

Price and Consensus: CRNCY

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