Oil storage tanks at the Kinder Morgan fuel terminal in Wilmington, Calif.
Bing Guan/Bloomberg
Energy investors are looking for growing dividends, and one of the best ways to spot companies that could increase their payouts is to look for those pumping out the most free cash flow. One measure of the strength of a company’s free cash flow—and its possible investibility — is its free cash flow yield. The yield divides the company’s free cash flow by its market cap, giving a better sense of how investors are valuing the company’s cash production.
A high free cash flow yield usually means a company is in good shape to maintain or increase its dividend or ramp up capital investments. It can also indicate that the company’s cash flow is not yet fully valued in its stock price.
To find energy companies generating more than enough cash to send back to shareholders, we screened for energy names in the S&P 1500 with the highest free cash flow yields. In this screen, we looked for stocks with market capitalizations of over $5 billion.
Source: Factset
Oil and gas producers are more focused on generating cash than they have been in years, or perhaps ever. The industry’s failure to provide strong cash returns in the past has made investors skeptical — so the companies are trying to prove that they can produce consistent returns and not get into debt trouble again.
One company that has been able to generate considerable cash is
PDC Energy
(ticker: PDCE), a Denver-based producer. PDC was able to nearly triple its free cash flow to $609 million in the first nine months of the year as oil and gas prices rose. With all that cash, the company has been able to pay off debt faster than expected and increase shareholder returns, boosting its total expected shareholder returns this year to $210 million from $180 million in its latest quarterly report. The company says it may pay part of that back as a special dividend.
For now, PDC’s dividend yield of 0.9% is small, but will likely rise if it can continue generating cash. Even if oil and gas prices fall more than 20% from current levels, the company projects it will generate $2.5 billion in free cash flow between 2021 and 2023, equal to half its current market cap.
EQT
(EQT) is one of the country’s largest natural gas producers. It has benefited as gas prices have risen, though it hedged some of its production at lower prices so probably won’t see the full benefit. That said, EQT has been generating enough cash to consider reinstating its dividend. The company hopes to offer investors a “modest but meaningful” dividend as well as buybacks, said CEO Toby Rice on its latest earnings call.
Targa Resources
(TRGP) is an energy infrastructure company focused on gathering, storing. and processing natural gas. With high demand for gas around the world, Targa is well-situated to profit. The stock has a dividend yield below 1%, but expects it to increase. CEO Matthew Meloy said on the company’s latest earnings call that management would recommend that the board institute a $1.40 annual dividend payable in February, which would lift the dividend yield to 2.6% at the current stock price.
Kinder Morgan
(KMI) is another infrastructure company that has benefited from positive trends in the energy sector. It already raised its dividend 3% in April, and now offers a 6.6% dividend yield, among the highest in energy. Executive Chairman Richard Kinder said on an earnings call last month that the stock “provides you with a nice locked-in return with this dividend and then provides really good optionality for the future.”
Write to Avi Salzman at avi.salzman@barrons.com
