How investors can divest from Big Oil stocks and keep their beloved dividends
A movement to divest from fossil fuel stocks began in earnest earlier this year. In February, several renowned institutional investors made news by divesting from the fossil fuel industry. Among the investors that sold fossil fuel stocks were the world’s largest sovereign wealth fund, and two of the world’s biggest pension funds. In addition, endowments of the University of California, Oxford, and Stanford also pledged to sell off fossil fuel investments.
But after a rousing beginning, the divest movement has hit a wall. Other major institutional investors, such as pension funds, endowments, and mutual funds, have widely resisted the calls to divest from coal, oil, and gas firms that are contributing to climate change and global warming. Instead, the vast majority of investors, at both the institutional and retail levels, continue to own fossil fuel stocks.
One reason for this is that Big Oil stocks have historically been very profitable investments. Even today, while stock prices have been hit hard by the collapse in commodity prices, investors hold onto these stocks for their dividends. The good news is that there are more suitable options than ever to sell Big Oil stocks, even for investors who love dividends.
Improved profitability leads to sizable dividend payouts
When investors think dividends, they typically think of the oil and gas giants like Exxon Mobil (NYSE: XOM) and Chevron (NYSE: CVX). Indeed, there is a good reason why these stocks enjoy reputations for being among the top dividend stocks in the entire market. Both Exxon and Chevron are members of the Dividend Aristocrats, a group of companies in the S&P 500 Index that have raised their dividend payouts for at least the past 25 years in a row. Not only that, but these stocks provide significant levels of income for their investors. As measured by their dividend yield, which is a stock dividend expressed as a percentage of the current share price, Exxon and Chevron pay their shareholders 3.4 percent and 4.2 percent each year, respectively.
Hefty dividend payments that grow each year are why Exxon and Chevron have been in investors’ good graces for so long. However, companies in the renewable energy industry are beginning to catch up. For example, investors who desire income from their stock holdings should consider 8Point3 Energy Partners (NYSE: CAFD). 8point3 Energy owns and operates solar energy generation projects. It owns interests in six utility-scale solar energy projects, two commercial and industrial solar energy projects, and a total generation capacity of 432 megawatts. 8Point3 Energy is small, but it’s growing fast. Over the first half of 2016, the company generated $20.6 million of revenue. In the same period last year, revenue came in at just $4.3 million.
As its cash flow continues to grow, so does the company’s distribution to shareholders. 8Point3 Energy recently increased its distribution by 3.5 percent from the previous quarter. Even better, the stock provides investors with a 5.5 percent yield—far higher than even Exxon and Chevron offer. And, if oil and gas prices stay at depressed levels, Exxon and Chevron may have trouble raising their dividends going forward. At the same time, 8Point3 is likely to continue increasing its distribution. In fact, after raising the second quarter 2016 distribution by 3.5 percent, the company guided investors to expect another 3.5 percent increase in the third quarter.
Analysts are beginning to embrace 8Point3 and its compelling growth story. The average analyst one-year price target for the stock is $18.41. This represents 10 percent upside potential, and including the dividend, investors could earn a 15 percent return in the next 12 months. Analysts expect 8Point3 Energy to generate $50 million in revenue this year, compared with $10 million last year. In 2017, revenue is expected to soar once again, to $93 million.
By far, the biggest factor that has allowed companies to make such large dividend payouts to investors each quarter is falling costs. As consumption increases, solar and wind capacity is increasing as well. This has granted renewable energy firms the benefits of scale. Efficiencies in production and distribution is lowering costs across the industry, which has boosted profit margins. These extra profits can then be returned to shareholders each quarter as a dividend. This is a big reason why 8Point3 Energy generated $2.6 million in operating profit over the first half of this year, which reversed a $7.7 million operating loss in the same six-month period last year.
This could not come at a better time, because in order for renewable energy stocks to be viable replacements for Big Oil stocks, they will need to offer investors more than just positive feelings. To be considered as serious candidates for inclusion in the world’s biggest investment portfolios, companies need to offer a financial incentive to attract investment. Essentially, these stocks offer investors the best of both worlds. They are accomplishing a critical mission, which is to stem the effects of greenhouse gas emissions and global warming, and are also proving to be viable businesses. No longer do investors have to choose between the two.
Companies to watch
In addition to 8Point3 Energy, there are other renewable energy stocks that sport excellent dividend yields, which meet or exceed the dividend yields offered by Big Oil stocks.
Brookfield Renewable Partners (NYSE: BEP) has a 5.6 percent yield and enjoys strong business fundamentals. Brookfield expects to increase distributions each year by 5-9 percent, depending on how the business performs. But that is still a very attractive distribution growth rate, considering its high yield. Brookfield has a large project pipeline, meaning it has a long runway of future growth. It more than doubled its asset base in just the last five years.
Another strong candidate is NextEra Energy Partners (NYSE: NEP), which owns and operates clean energy projects. It has a portfolio of approximately 2,200 megawatts of renewable energy projects, and the stock pays a 4.4 percent dividend yield.
For investors willing to take a little more risk, TerraForm Power (NYSE: TERP) could be a high-risk, high-reward stock. TerraForm owns and operates solar and wind generation assets serving utility, commercial, and residential customers. Its portfolio has capacity of 1,500 megawatts. The stock offers a 12 percent dividend currently, but the dividend may be reduced, as the company reported a loss in the last year.
Bob Ciura is an independent equity analyst. Since 2012, his work has focused on fundamental investment analysis of publicly-traded companies in the energy, technology, and consumer goods industries. Bob has a Bachelor's degree in Finance and an MBA in Finance.