Proactive Investors - In the world of Big Oil, a significant transformation is unfolding. As major oil companies prepare to release their quarterly reports, a trend is becoming clear: share buybacks, not earnings, are becoming the primary driver of share prices, according to the latest research from Bank of America (NYSE:BAC). But why is this shift occurring, and what does it mean for investors and the industry at large?
Traditionally, share prices in the oil sector were influenced by earnings reports. If a company reported profits above expectations, its share price would likely rise, and vice versa, BofA notes. However, a new factor has emerged as a dominant force in determining share price performance: the strategy of share buybacks. This is where companies repurchase their own shares from the marketplace, reducing the number of outstanding shares and, in theory, increasing the value of the remaining shares.
Central to this shift is the 'Redemption Roadmap' thesis, says the American bank. In essence, this theory suggests that the way Big Oil companies return cash to shareholders, especially through share buybacks, plays a pivotal role in share price movements. It's a trend that has overshadowed traditional performance indicators like earnings beats or misses.
Take TotalEnergies (LON:TTEF) as a prime example. The company's recent decision to increase the amount of cash it returns to shareholders resulted in its shares outperforming its peers by 5% since the results of the second quarter of 2023 (2Q23). TTE's new policy now commits to returning over 40% of its cash flow from operations to shareholders. For those unfamiliar with the term, cash flow from operations (CFFO) is the money generated from a company's regular business activities – it's a measure of a company's financial health and its ability to generate positive cash flow.
However, it's not all sunshine and roses in the Big Oil sector. While companies like TTE and Shell PLC (LON:SHEL) are leading the pack, others like Repsol (BME:REP) and Galp are facing challenges. Repsol's distributions to shareholders might decrease by about 30% year-on-year, a significant drop. Meanwhile, Galp's financial health could be strained as its capital expenditures, the funds used by a company to acquire or upgrade physical assets, are set to rise.
But why should the average investor or observer care about share buybacks? Well, they offer insights into a company's confidence in its own future, BofA says. If a company is buying back shares, it's often seen as a sign that its leadership believes the shares are undervalued and that the company has a positive outlook. Furthermore, in an industry as volatile as oil, where prices can be influenced by myriad factors from geopolitical tensions to technological advancements, buybacks offer a more tangible way for companies to provide value to shareholders.
To wrap up, as European Big Oil companies venture further into the world of share buybacks, with a whopping $31 billion worth of shares already repurchased this year, it's clear that this strategy is more than just a passing trend. It's a sign of changing times in the oil industry, with companies looking for innovative ways to provide value to shareholders and navigate the challenges of a complex global market. Whether this strategy pays off in the long run remains to be seen, but for now, it's a trend that's impossible to ignore.