A trip to the gas station can now do an impressive amount of damage to a weekly budget. Statistics Canada reported that gasoline prices were 27.8% higher in September than a year earlier, and commuters don’t need a chart to appreciate the change.
For investors, that uncomfortable household expense creates a temptation to buy the company on the other side of the transaction. The connection exists, but it isn’t dollar for dollar. Pump prices include taxes, distribution costs, and refining margins. An oil producer’s profit also depends on the price it receives for crude and the cost of getting it out of the ground.
Owning energy shares can add exposure to higher commodity prices, but won’t reliably reimburse your fuel bill. Furthermore, it can leave you with a falling investment just as household finances become tighter. Position size deserves as much attention as the latest price at the pump. So let’s look at whether investors should consider this oilsands stock.
Source: Getty Images
SU
Suncor Energy (TSX: SU) combines oilsands production with refineries and a retail fuel business. That gives it several ways to earn money along the supply chain. Strong oil prices help production economics, while refining profitability depends on the gap between crude costs and product selling prices.
Integration can soften some of the swings between those activities, but won’t eliminate them. A refinery outage can interrupt a profitable stretch, and a weaker economy can reduce fuel demand. Investors still own a cyclical company, even when its operations are large and familiar.
The second quarter showed how much cash the business can generate in a favourable environment. Suncor reported adjusted funds from operations (AFFO) of $5.3 billion and free funds flow of $4 billion. The latter deducts capital spending from the company’s adjusted funds measure, providing a useful view of cash available for other purposes.
Into income
Suncor recently traded at $110.63 with a quarterly dividend of $0.60, which works out to $2.40 annually, giving the shares a yield of roughly 2.2% at writing. Investors looking only for a very high yield will find less excitement here than the oil-price headlines suggest.
That’s partly the point of checking valuation after a strong run. A company can produce excellent results while the stock already reflects much of the good news. Buying it today requires confidence in future cash generation at the price you’re paying, not admiration for money it earned last quarter.
Considerations
The appealing version of this investment has continuing operating improvements while excess cash supports dividends, buybacks, and the balance sheet. The less cheerful version has oil prices retreating while maintenance costs remain stubborn. Both belong in the analysis of Canadian stocks.
A dividend investor also needs to remember that energy payouts can change. Suncor’s cash generation provides support today, but a commodity company doesn’t acquire utility-like predictability simply by paying quarterly.
A cash-flow stress check makes the price easier to assess. If the latest quarterly free funds flow per share were 25% lower, the same annualized comparison would rise from about 8.2 to 10.9 times. Oil stocks can absorb that sort of change without anything being wrong with the arithmetic. It’s why a strong current yield on cash generation needs a realistic view of the cycle.
Bottom line
I’d be comfortable using Suncor as a measured energy holding, with a purchase price that leaves room for a less profitable year. The next results should show how much cash remains after maintenance and capital spending. Shareholders will benefit most if management keeps using a strong cycle to improve the business before the cycle eventually becomes less generous.
