Warren Buffett’s Big Bet on Occidental Petroleum

we’ll explore one of Warren Buffett’s most interesting moves: his recent investment in Occidental Petroleum (OXY). Buffett’s involvement has brought significant attention to the stock, making it a key player to watch for value investors. We’ll break down Occidental’s appeal using four straightforward steps: its recent news, fundamental strengths, financial metrics, and valuation. If you’re curious about why Buffett might see promise in this energy stock, read on to find out!

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1. What’s in the News?

Let’s start with the headlines. Warren Buffett’s company, Berkshire Hathaway, recently bought a significant stake in Occidental Petroleum. He now holds about 28% of the company, with his investment valued at around $13 billion. While Occidental itself hasn’t made many recent waves in the media, Buffett’s interest in the company speaks volumes. Given that Buffett typically invests in companies with strong long-term potential and solid fundamentals, it’s worth exploring what he might see in Occidental.

2. Fundamentals of Occidental Petroleum

Occidental Petroleum is a key player in the energy sector, involved in the exploration and production of oil and natural gas. The company operates across multiple segments, including oil and gas, and chemicals making it a relatively diversified energy enterprise.

Given that energy demand remains high, the oil and gas sector is integral to the global economy. Occidental’s strategic acquisition of Anadarko Petroleum Corporation in 2020 significantly boosted its reserves and growth potential, although it also brought about challenges that impacted its financials in the short term. This acquisition gave Occidental access to valuable oil and gas reserves in Texas and New Mexico, setting the company up for long-term growth.

We use six indicators to check whether a company’s fundamentals are solid and healthy.

Item (Avg. 5 years)ValueCheck mark
Revenue growth17.17%
Net income growth420%
Free cash flow growth4.38%
Share buy back-5.27%
Long-term debt/fcf5.77
Dividend growth13.77%
The fundamentals of OXY

3. Important ratios

If we take a look at the important ratios, there are a few metrics that stand out. The selling and general expense ratio is low at around 4% in 2024. We generally consider companies with < 20% selling and general expense ratio to have great competitive advantage as they do not need a lot of marketing to sell their products. Furthermore, we find a relatively stable gross profit margin with an average of 28%. Other than that we do not find any other remarkable ratios.

4. Valuation

When valuing a company we decided on the following inputs:

ItemInput
Projection period15 years
Discount rate10%
Estimated growth rate6%
Projected P/E ratio14
Required rate of return10%
Margin of safety30%
Valuation inputs

1. Projection Period

  • Reasoning: The chosen projection period is 15 years. This extended timeframe aligns with Buffett’s long-term approach to investing. As energy demand is projected to remain robust for the foreseeable future, a 15-year period allows for capturing the full impact of Occidental’s strategic acquisitions (like Anadarko) and long-term growth, despite the inherent volatility of the oil and gas sector. This length allows investors to benefit from compounding and the potential stabilization of oil prices over time.

2. Discount Rate

  • Reasoning: The discount rate reflects the risk premium associated with investing in Occidental within the energy sector. Typically, the discount rate here might range from 8% to 10%, reflecting moderate-to-high volatility and sector risks but still considering Occidental’s established position in oil and gas. Given Buffett’s risk tolerance and confidence in Occidental, this rate accounts for sector volatility while providing a conservative return benchmark that acknowledges the company’s strategic relevance in the energy market.

3. Estimated Growth Rate

  • Reasoning: A 6% annual growth rate is estimated for Occidental, based on its recent performance and strategic positioning post-Anadarko acquisition. This growth rate is conservative but realistic for a large-cap energy company, especially given fluctuating oil prices and the shift toward renewable energy. It reflects Occidental’s ability to sustain moderate growth over time, supported by stable demand for fossil fuels and its expanding resource base in U.S. oil regions.

Based on the transcript, here’s the rationale behind each input:


1. Projection Period

  • Reasoning: The chosen projection period is 15 years. This extended timeframe aligns with Buffett’s long-term approach to investing. As energy demand is projected to remain robust for the foreseeable future, a 15-year period allows for capturing the full impact of Occidental’s strategic acquisitions (like Anadarko) and long-term growth, despite the inherent volatility of the oil and gas sector. This length allows investors to benefit from compounding and the potential stabilization of oil prices over time.

2. Discount Rate

  • Reasoning: The discount rate reflects the risk premium associated with investing in Occidental within the energy sector. Typically, the discount rate here might range from 8% to 10%, reflecting moderate-to-high volatility and sector risks but still considering Occidental’s established position in oil and gas. Given Buffett’s risk tolerance and confidence in Occidental, this rate accounts for sector volatility while providing a conservative return benchmark that acknowledges the company’s strategic relevance in the energy market.

3. Estimated Growth Rate

  • Reasoning: A 6% annual growth rate is estimated for Occidental, based on its recent performance and strategic positioning post-Anadarko acquisition. This growth rate is conservative but realistic for a large-cap energy company, especially given fluctuating oil prices and the shift toward renewable energy. It reflects Occidental’s ability to sustain moderate growth over time, supported by stable demand for fossil fuels and its expanding resource base in U.S. oil regions.

4. Projected P/E Ratio

  • Reasoning: The projected P/E ratio is likely to be modest, around 12-15x. This valuation metric considers the company’s average historical P/E while accounting for the cyclical nature of the energy industry. A lower P/E is chosen as a conservative measure, factoring in possible declines in oil prices and market sensitivity. This ratio reflects that energy companies are valued at a lower multiple than high-growth sectors like technology, yet it remains attractive for a stable, dividend-paying stock with Buffett’s backing.

5. Required Rate of Return

  • Reasoning: The required rate of return is likely around 8-10%, which aligns with the discount rate and is close to the returns of the S&P 500. This figure reflects a balance between Occidental’s moderate dividend yield and the growth expectations in the energy sector. This target rate is conservative yet achievable, considering the company’s capacity for debt repayment, steady cash flow, and strategic growth. It also meets Buffett’s typical requirement for investments that generate returns above inflation and other asset classes.

6. Margin of Safety

  • Reasoning: A 30% margin of safety is sensible, acknowledging the volatility of the energy sector and Occidental’s exposure to commodity price fluctuations. This safety margin protects against potential valuation swings due to external factors, such as regulatory changes or shifts in energy prices, while still considering Occidental’s solid position. This buffer provides room for potential short-term setbacks while aligning with value investing principles, making Occidental a safer long-term hold if market conditions shift.

Results

Our calculations suggest that fair value lies around $44.87, adjusted for the margin of safety the buy in price would be around $31.41. The fair value is slightly higher than the current price which lies around $51.05. However, if we would remove one of the outliers, the fair value is suggested to be somewhere around $53,25 (not accounting for margin of safety).

Conclusion

Depending on your risk tolerance, OXY might be at a good price to pick-up. However, make sure to do your own due diligence.

Understanding Alibaba: Recent Developments and Investment Insights

Welcome to our in-depth analysis of Alibaba Group (NYSE: BABA), where we’ll explore recent market movements, financial fundamentals, and potential investment opportunities. With the Chinese economy undergoing significant changes, particularly after the recent stimulus measures introduced by the Central Bank, now is an ideal time to reassess Alibaba’s position in the market.

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Recent Market Developments

Three weeks ago, China unveiled one of its most aggressive economic stimulus packages since the pandemic, resulting in a surge of optimism across various sectors, especially in Chinese stocks. This monetary injection has reignited interest in companies like Alibaba, which has seen its stock price rebound from a low of $63 in October 2022 to around $110 recently. This recovery is a promising sign for both current shareholders and potential investors.

Financial Fundamentals

When analyzing Alibaba’s financial health, several key ratios stand out:

  1. Price-to-Earnings (P/E) Ratio: Currently at 18.5, Alibaba’s P/E ratio is significantly lower than the tech industry average of 38, indicating that the stock may be undervalued compared to its peers.
  2. Gross Margin: Alibaba maintains a robust gross margin of 31%, well above the industry benchmark of 20%, showcasing its efficiency in managing production costs.
  3. Long-Term Debt Coverage: Alibaba’s long-term debt is comfortably covered by its free cash flow, which has grown consistently over the past years, providing a cushion in uncertain economic times.
  4. Revenue Growth: While Alibaba’s revenue growth has plateaued, it has maintained a steady rate, with an average increase of around 10% annually.
  5. Share Buybacks: The company has been actively repurchasing its shares, indicating management’s confidence in Alibaba’s future and its perceived undervaluation in the market.

Comparative Analysis with Competitors

Alibaba’s performance can be compared to Western giants like Amazon and Google. Despite its challenges, Alibaba’s stock remains relatively cheaper, with a P/E ratio that offers a compelling argument for value-oriented investors. Moreover, while Alibaba operates in a challenging environment, its diversified revenue streams—spanning e-commerce, cloud computing, and digital media—position it well against its competitors.

Valuation Insights

In terms of valuation, analysts are predicting a conservative growth rate of around 1.27% annually, which many believe is overly cautious. Considering the recent economic stimulus, a more realistic growth forecast may range from 7% to 10%. Based on our assumptions Alibaba seems to be a little over valued at the moment.

Investors should conduct their own due diligence, evaluating the potential risks associated with geopolitical tensions and regulatory challenges that could impact Alibaba’s growth trajectory.

Conclusion: Is Alibaba a Good Investment?

For potential investors, Alibaba presents a compelling opportunity for those who would like to start a position at a marginal premium. However, the investment landscape remains complex due to external factors like geopolitical tensions and the overall health of the Chinese economy. As always, it’s essential to perform thorough research and consider your own risk tolerance before making investment decisions.

The Ultimate McDonald’s Stock Analysis: Is It Worth the Investment?

A woman is walking up to an American style Mc Donalds.

Whether you’re a seasoned investor or new to the market, McDonald’s is a popular stock that often catches the eye due to its robust fundamentals and iconic global presence. In this post, we’ll analyze the company’s key financial metrics, business model, and valuation methods to help you decide if McDonald’s is a worthy investment for your portfolio.

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What’s in the News for McDonald’s?

McDonald’s has made headlines recently, particularly during the U.S. election season. There’s been buzz around a claim made by one of the presidential candidates that they worked at McDonald’s. This news, although it might seem trivial, keeps the company in the media spotlight. As election debates heat up, McDonald’s remains a topic of discussion, making it an interesting time to evaluate its stock.

McDonald’s Fundamentals: A Closer Look

McDonald’s fundamentals remain strong, and that’s why the stock has maintained its appeal over the years. Let’s break down some of the key metrics:

  • Dividend Yield: McDonald’s boasts a healthy dividend yield of 2.1%. Additionally, with a dividend payout ratio of 53%, the company appears to be on solid financial footing, distributing consistent returns to its shareholders.
  • PE Ratio: The company’s PE ratio is currently at 21, which is in line with industry standards, particularly when compared to other consumer goods giants like Starbucks.
  • Profit Margins: McDonald’s gross profit margin of 55% and operating margin of 53% demonstrate the efficiency of the business. Their ability to optimize operations, coupled with the strength of their brand, contributes significantly to these figures.

Key Ratios That Matter

For investors, several key ratios can provide insights into McDonald’s operational efficiency and potential for future growth:

  • Net Earnings Ratio: Over 20%—a strong indicator of profitability.
  • Debt Coverage: McDonald’s long-term debt is covered by its free cash flow, at a rate of 5 times, showing strong financial health.
  • Share Buybacks: McDonald’s has consistently bought back shares, increasing the value for existing shareholders. In fact, 15.75% of shares have been repurchased recently—a positive sign for investors.

Understanding McDonald’s Business Model

One of the key factors behind McDonald’s success is its franchise model. Around 95% of McDonald’s locations are franchises, which means the company earns steady, recurring revenue through franchise fees while keeping operational costs low. McDonald’s typically owns the land on which these franchises operate, creating a dual revenue stream from both real estate and franchise operations.

This business model makes McDonald’s a reliable cash generator and positions it as a long-term player in the fast food industry.

Valuation Methods: How We Evaluate McDonald’s Stock

Now let’s dive deeper into the various valuation methods we use to assess whether McDonald’s stock is priced fairly.

1. Discounted Cash Flow (DCF) Analysis

The discounted cash flow method estimates the present value of McDonald’s future cash flows, factoring in its efficiency and operational excellence. Here’s how we break it down:

  • Projected Free Cash Flow Growth: We assume McDonald’s free cash flow growth will be 10-15% annually due to its robust operational efficiency.
  • Discount Rate: For DCF, we typically use a discount rate of 10%, which accounts for the risk of investing in individual stocks versus the broader market.
  • Valuation: Based on the DCF model, McDonald’s intrinsic value is estimated at $157 per share.

2. Benjamin Graham’s Formula

The formula of Benjamin Graham mainly focusses on the growth rate and the company’s current EPS ratio. According to this formula, Mc Donalds should be priced around $102.

3. Warren Buffett’s Rule of Thumb Formula

Similar to the Benjamin Graham Formula, the rule of thumb formula uses the same input however it undermines the 4.4% high yield bond rate that Benjamin included. Therefor this valuation is always slightly higher and prices the stock at around $146.

4. Target Valuation Formula

This formula emphasizes on the current EPS, an estimated P/E Ratio, growth rate and the period you are planning on holding the stock. This formula returned a valuation of $263

5. Intrinsic Value (NPV) Formula

This formula is a bit more elaborate and includes the cashflow, discount rate, number of periods, and residual value. This formula returned a price of $118.

Average valuation

Most statisticians know that the average is (almost) always right. Therefore, we are interested in what the average of all five formulas is. The average of all the formulas that we used is $157.63 which is a lot higher than the price it is currently trading for ($289).

Now let’s dive deeper into the various valuation methods we use to assess whether McDonald’s stock is priced fairly.

Should You Invest in McDonald’s?

While McDonald’s is a household name with an exceptional business model and solid fundamentals, its current stock price suggests it might be overvalued. However, if you’re a dividend-focused investor or looking for a stable, long-term addition to your portfolio, McDonald’s is certainly worth considering—especially if the stock price dips to more reasonable levels. But keep in mind that this valuation is based on our assumptions and should not be taken as financial advise.

Conclusion

McDonald’s is a well-established brand with strong financials, making it a potentially attractive stock for long-term investors. However, based on various valuation methods, McDonald’s appears to be overvalued at its current market price. It might be a good idea to keep the stock on your watchlist and consider purchasing when prices align more closely with its intrinsic value.

As always, do your own due diligence before making any investment decisions. If McDonald’s stock aligns with your investment strategy, it could become a valuable asset in your portfolio for years to come.