Whenever a sector goes through a challenging period, there are always winners and losers. For example, companies with a competitive advantage or a wider economic moat than their competitors can come through a tough period in a stronger position relative to their peers. As such, even when the near-term outlook for an industry is rather bleak, there can be companies that are well-worth buying.
Oil
And, when it comes to challenging periods, there are few sectors experiencing quite the level of difficulties as that of the oil industry at present. With the price of oil still well below $100 per barrel, the outlook is bleak, profitability has fallen and valuations have come under severe pressure. This, then, appears to be the perfect time for sector consolidation, with companies that have strong cash flow and deep pockets likely to take advantage of low valuations and long term capital appreciation potential.
Opportunities
Two stocks which could fit the bill as potential takeover targets are LGO Energy (LSE: LGO) and Genel (LSE: GENL). Both companies have seen their share prices fall during the course of the year, with LGO’s being down 11% and Genel’s falling by 26%, and yet they both have bright futures ahead of them.
For example, LGO’s drilling programme is moving from strength to strength, with it commencing the drilling of its twelfth development well at its main Goudron field in Trinidad. News flow for LGO has been positive, but the crucial aspect of the company that may appeal to potential suitors is the low cost curve that the company enjoys. In fact, even while oil was priced at less than $50 per barrel, LGO’s management made it clear that the Goudron field remained a viable prospect and, with the outlook for the oil price being somewhat downbeat for the next few years, this could appeal to LGO’s larger sector peers.
Meanwhile, Genel has fallen back into loss-making territory after a challenging year last year. And, while it continues to face political uncertainty in Iraq/Kurdistan, its medium term prospects appear to be very bright. In fact, Genel is expected to return to profit this year and then grow its earnings by 78% next year. Furthermore, such growth appears to be on offer at a very reasonable price, with Genel trading on a price to earnings growth (PEG) ratio of just 0.2 and a price to book (P/B) ratio of only 0.6. As such, Genel appears to offer a potent mix of value, growth potential and also benefits from an excellent management team with a sound long term strategy.
Looking Ahead
Clearly, things could get worse before they get better for the oil sector and, realistically, the oil price could resume its downward spiral after a period of respite. However, there are clearly opportunities for investors to benefit, and also for oil majors to pick up smaller peers at discounted prices. On both of these fronts, LGO and Genel appear to offer considerable appeal, thereby making them potentially rewarding, albeit risky, investments.
