Sector :

Energy Sector



Description :

Energy source comes in many form, and those includes:-

  • wind
  • coal
  • nuclear
  • solar
  • hidro electric
  • Oil & Gas

… but nothing beats the hugh margin from the business of Oil & Natural Gas.



Normal usage of energy range from

  • providing fuel for all types of vehicles such as cars, jets, planes, boats, etc …..
  • electricity for every house/buildings
  • to support power plants, etc …..
  • lubricants for hugh factories and machines…


Categories of Oil & Gas

Basically, the business of Energy in Oil And Gas can be categorized into 4 major sectors …….

  • Upstream
  • PipeLines
  • Services
  • Downstream
Upstream
  • Exploration and Production
    • Exploration == Finding new mining sites
    • Production == Mining oil from site
  • This sector very sensitive towards crude oil price
  • because the cost of explore + production is basically fixed, and the amount of oil that can be produces is also almost fixed, the major difference is only how high a price u can fetch from selling the oil that u’ve digged.
  • When Crude Oil price goes up, Upstream companies post HUGE profit
  • When Crude oil price goes down, companies which only focus on upstream usually sees red returns.
Pipeline
  • After oil is dug from the upstream companies, they can’t be used directly.
  • They need to be processed so that it can be categorized into different usage and distributed for different usage such as petrol, jet fuels, heavy machine lubricant, cooking oil, etc …
  • These is where the Pipeline companies come into play.
  • These companies usually has very consistent profit, and is least sensitive to commodity (oil) price change.
  • Some sort of competitve advantage is achieve when some pipeline companies holds the only transportation route at certain area.
  • Kinder Morgan (KMP) is one of the companies who solely focus on this area.
Services
  • Oil companies from the upstream have to drill wells to dig out those oil.
  • These wells need drilling as well as maintainance to keep it safe and working.
  • There are companies who solely provide such services:-
    • Halliburton (HAL)
    • Schlumberger (SLB)
    • Baker Hughes (BHI)
Downstream
  • Crude oil dug from the soil needs to be pre-processed before they can be used as end product.
  • These are the companies which turned raw crude oil into those end products.
  • Profit margin in this sector is extremely thin, and can be considered as truly commodity companies.
  • Most of the time, profit comes from the difference between the selling price of the end product minus the buying price of the raw crude oil.
  • The business model is basically :-
    • buy oil from upstream company
    • process it
    • sell it to end users and customers
  • As you can see, their profit depends heavily on the cost of the raw materials(crude oil) that they used, and thus:-
    • when oil price goes up, profit goes down
    • when oil price goes down, profit goes up

And some of the companies holds lines throughout all sectors all by themselves.

These are the behemoth, huge size companies which are no stranger to the public. ExxonMobile (XOM) and British Petroleum(BP) and Shell Dutch are the 3 major players in this area.



Economic Moat :

High Entry Cost

(Economies of Scale)
  • Regardless of which section you are in, the bigger the company, the most advantage you get against other players.
  • Everything is a fixed cost … be it ..
    • finding / digging a well
    • transporting crude oil thru pipelines
    • machine used to refine raw crude oil to end product
  • … And those doesn’t come in cheap.
  • The more products you sell, the more revenue you get, and the cost will be must lower comparatively.
  • That’s how the players in this sector wins.
  • That’s why all the major players keeps to be the major players all these while … XOM, BP, Shell.


Growth & Profitability :

Finding new source

(exploration)
  • keep finding new source of raw crude oil
  • and keep digging it to maintain production.
Acquisition
  • Acquire smaller companies who has a lot of already explored source of crude oil is also a way to gain new source of raw crude oil


Financial Health:

  • As the energy sector is already a very well established sector (almost for the past century?), most of the big companies are already in the saturated phase.
  • They are so strong that, there shouldn’t be extreme debts in their liability section of the balance sheet.
  • On top of that, most of these companies should be paying to fat deal of dividend consistently, as cash are pouring in like draining water like there’s no tomorrow.
  • Why? Because they are strong companies. Revenue is high, but capital expenditure is low.
  • Therefore, look for huge cash flow.


Companies :
A few companies that are worth mentioning are listed below:-

  • ExxonMobile (XOM)
  • British Petroleum (BP)
  • Kinder Morgan (KMP)
  • Halliburton (HAL)
  • Schlumberger (SLB)
  • Baker Hughes (BHI)