The last year has been incredibly challenging for investors in the oil sector. A declining oil price, falling profitability and weak investor sentiment have all combined to depress share prices across the sector. Looking ahead, a global supply/demand imbalance is showing little sign of abating and, as a result, the outlook for the price of oil seems to be rather downbeat.
However, for long term investors the sector presents a huge opportunity. Certainly, things could get worse before they get better, but with a sound strategy and determined management team, oil companies can emerge as leaner, more efficient and more profitable businesses in the medium to long term.
For example, Shell (LSE: RDSB) appears to be doing all of the right things at the present time. It is utilising its exceptionally strong financial firepower to engage in M&A activity via the purchase of BG and, while the cost of the deal is relatively high at £55bn, Shell’s balance sheet and cash flow could accommodate further deals should the company wish to increase its market share. Additionally, Shell is divesting non-core assets to raise capital and is taking advantage of its own cheap share price via a £16bn share buyback programme between 2017 and 2020.
In fact, Shell offers exceptional value for money at the present time. It trades on a price to earnings (P/E) ratio of just 14.5 and, with its bottom line set to rise next year by 20%, it equates to a price to earnings growth (PEG) ratio of only 0.7. This indicates that Shell’s shares are set to reverse their 24% decline over the last year and, with a dividend yield of 6.4%, they remain one of the best yielding shares in the FTSE 100.
Of course, there are other appealing opportunities in the oil sector. Support services company, Petrofac (LSE: PFC), may be set to endure a tough year in 2015, with its bottom line expected to fall by as much as 50%. However, next year is likely to be a very different story, with growth of 83% being forecast.
This puts Petrofac on a PEG ratio of just 0.1 and, with a yield of 4.6%, it remains a top notch income play, too. That’s especially the case since Petrofac’s dividends should be covered around 2.5 times by profit next year, which indicates that they are very sustainable.
Meanwhile, Nostrum (LSE: NOG) is expected to deliver much improved performance in 2016, too. For example, its earnings per share are set to rise from 7.9p in the current year to 44.9p next year. That’s a stunning rate of growth and, with the company’s share price having risen by 33% since the turn of the year, investors appear to be beginning to factor in its improved performance. Still, Nostrum trades on a forward P/E ratio of 12.5, which indicates good value for money, while a forward yield of 4.1% also indicates that it could become a top notch income play, too.
Clearly, there is huge opportunity within the oil sector and, while Petrofac and Nostrum undoubtedly have vast potential and are worth buying, Shell’s superior size, scale and financial standing make it the less risky option, while it continues to offer excellent potential rewards in the long run. Therefore, Shell appears to be the preferred choice at the present time.