Occidental Petroleum (OXY 1.57%) is one of the top stock holdings of Warren Buffett’s company Berkshire Hathaway (BRK.A 0.35%) (BRK.B 0.35%). The conglomerate held over 194 million shares worth more than $14 billion. That’s 21.4% of the oil company’s outstanding shares and 4.2% of Berkshire’s portfolio, making it Buffett’s 6th largest holding.
One of the oil company’s primary focuses in recent years has been shoring up its balance sheet. It spent $55 billion to wrestle Anadarko Petroleum away from rival Chevron in 2019. That debt-laden deal put tremendous pressure on the company’s finances when crude prices plunged in 2020. However, this year, Occidental has paid off a substantial amount of debt thanks to higher oil prices. That puts it in the position to be much more friendly to shareholders like Buffett in 2023.
Focused on shoring up the balance sheet
Occidental Petroleum has prioritized using its free cash flow to reduce debt this year. Thanks to higher oil prices, the company “achieved our goal of reducing the face value of our debt to the high teens,” stated CEO Vicki Hollub on the third-quarter conference call. She noted that the company “repaid approximately $1.5 billion of debt in the third quarter.” That brought its year-to-date debt reduction to $9.6 billion. That’s a 34% reduction in its total debt outstanding this year, pushing its total debt remaining to $19 billion.
Hollub stated on the call, “providing commodity prices remain supportive, we intend to reduce the face value of our debt to approximately $18 billion by the end of this year, meaning that we will have repaid over $10 billion of debt in 2022.”
CFO Rob Peterson noted the importance of getting its debt below $20 billion on the call. He stated: “We believe reducing the base value of our debt to the high teens will accelerate our return to investment grade.” An investment-grade credit rating gives the company greater access to lower-cost capital. It also implies the company has the financial strength to weather a downturn.
Another benefit of reducing debt is that it will lower Occidental’s interest expense. The company’s success in paying off debt this year should save about $350 million in interest annually. That will enable the oil producer to generate more cash that it can use to create value for shareholders.
Turning its attention to shareholders
With its balance sheet improving this year thanks to the excess cash it has generated at higher oil prices, Occidental Petroleum has also been able to return more money to shareholders. In February, Occidental reset its quarterly dividend payment, boosting it from $0.01 per share to $0.13 per share, an eye-popping 1,200% increase.
Hollub also noted on the call that: “Our ability to generate substantial free cash flow, even as oil prices declined compared to the previous quarter, positioned us to complete approximately $2.6 billion of our $3 billion share repurchase program through November 7th. Over the last 12 months, we have returned approximately $3.21 per share to common shareholders.”
The company expects to return even more cash to shareholders in the coming year. Hollub stated: “As we enter 2023, we expect that our free cash flow allocation will shift significantly toward shareholder returns. We intend to reward shareholders with a sustainable dividend, supported by an active repurchase program; continued rebalancing of our enterprise value in favor of common shareholders; and a reduction in our cost of capital as the preferred equity is partially redeemed.”
The preferred equity she’s referring to is the $10 billion preferred investment Berkshire Hathaway made in 2019 to support the Anadarko deal. Redeeming that will save Occidental the 8% annual dividend it pays to Berkshire Hathaway, further improving its future free cash flow. That would provide additional capital to return to common shareholders — including Occidental’s largest investor in Berkshire — through a sustainable and growing dividend and additional share repurchases. Those growing cash returns should enhance the total returns Occidental generates for investors.
Reallocating the windfall
Occidental Petroleum has spent the past two years focused on paying off creditors. However, with its balance sheet improving, the company can send even more cash to shareholders in the coming year. That could give Occidental’s stock additional fuel to keep rising in 2023 if oil prices remain supportive.
Matthew DiLallo has positions in Berkshire Hathaway (B shares). The Motley Fool has positions in and recommends Berkshire Hathaway (B shares). The Motley Fool recommends the following options: long January 2023 $200 calls on Berkshire Hathaway (B shares), short January 2023 $200 puts on Berkshire Hathaway (B shares), and short January 2023 $265 calls on Berkshire Hathaway (B shares). The Motley Fool has a disclosure policy.