Buffett's Bet on Occidental Petroleum Is Looking More Dicey

Two Wall Street analysts say that Occidental Petroleum may choose to pay more than $800 million in annual dividends in stock rather than in cash. That’s not such a great deal for Warren Buffett’s Berkshire Hathaway

Two analysts say that the embattled oil company may choose to pay the $800 million in annual dividends in stock rather than in cash.

Berkshire Hathaway’s $10 billion preferred stock investment in Occidental Petroleum is looking more troubled.

Two Wall Street analysts say that an embattled Occidental (ticker: OXY) may choose to pay the $800 million in annual dividends in stock rather than in cash.

Paying the dividend in common stock, as permitted under the terms of the deal, would be dilutive to Occidental. It also wouldn’t be the deal that Berkshire CEO Warren Buffett anticipated when he reached the agreement for the investment last April.

Occidental’s market value is down to $10 billion, with its shares off 36 cents, to $11.25 Monday, bringing its year-to-date decline to 72%. Paying the annual preferred dividend in stock would mean issuance of about 8% of Occidental’s current share count.

The preferred investment, announced last April after quick talks between Buffett and Occidental CEO Vicki Hollub, initially looked like a coup for Berkshire (BRK. A) given the high 8% dividend rate plus equity warrants.

The preferred deal helped Occidental get the financing to win a bidding war for Anadarko Petroleum against the larger Chevron (CVX). Occidental paid $57 billion to acquire Anadarko.

The Berkshire preferred probably isn’t worth its face value now, as some Occidental debt trades for around 50 cents on the dollar.

Occidental slashed its common stock dividend by 86%, to 11 cents a quarter from 79 cents, earlier in March and twice reduced 2020 capital spending plans during March to deal with the sharp drop in oil prices.

Occidental has not said whether it plans to shift the preferred dividend payments to stock from cash. The company declined to comment.

“We are a bit surprised that the company still has not re-addressed the obvious additional lever of fully cutting the common dividend, since it was willing to readdress all other cost lines,” J.P. Morgan analyst Phil Gresh wrote in a recent client note. “Perhaps that will still be ahead, along with how it will handle the preferred dividend payments (we continue to assume paid in common stock moving forward).” Gresh has an Underweight rating on Occidental stock and a price target of $5 per share.

Morgan Stanley analyst Devin McDermott wrote recently that “high leverage and low oil prices have created a challenging backdrop” for Occidental and cited $11 billion of debt maturities in 2021 and 2022. In that note, he wrote that if market conditions don’t recover, Occidental’s options “include equity issuance (including paying $800 million of annual preferred equity dividends with a payment in kind option).” He has an Underweight rating and $7 price target.

Paying the preferred dividend in stock would save $800 million annually to Occidental. Such a move would expose Berkshire to more risk, but could ultimately benefit the conglomerate, which already owns a small equity stake Occidental, if the stock rallies.

On Monday, Berkshire’s class A shares were up 1.9%, at $273,075.

A leveraged Occidental has been hard hit by the sharp drop in crude prices, with West Texas Intermediate trading Monday at $20.18 a barrel, down $1.33 on the session.

The company had $38 billion of long-term debut outstanding at the end of last year—considerably more than the much larger Chevron—plus the $10 billion of 8% preferred held by Berkshire.

During March, Occidental has announced two reductions to its 2020 capital spending plan, with the most recent cut last week bringing the program to between $2.7 billion to $2.9 billion from an initial target of $5.2 billion to $5.4 billion.

Shares of Occidental peaked last April at $69, around the time that rumors surfaced that Occidental would try to break up the deal that Anadarko had reached with Chevron.

Reflecting rising investor concerns about Occidental outlook, two of its benchmark debt issues—the 4.4% bonds due in 2029 and the 3.5% bonds due in 2029—trade for about 50 cents on the dollar. Occidental debt has been downgraded to junk by the three main credit-rating firms, Standard & Poor’s, Moody’s, and Fitch.

The cuts to capital spending are depressing Occidental’s oil and gas output.

“Assuming ~$2.8B in 2020E capex (midpoint of updated guide of ~$2.7-2.9B), which is well below sustaining capex (~$4.5B), increasing to ~$3.1B in 2021, we see production declines of ~4% in 2020 and ~11% in 2021. Further, with the credit downgrades to junk last week, interest costs could escalate materially without aggressive action to pay off the $11B in 2021-22E debt maturities,” Gresh wrote last week.

Write to Andrew Bary at

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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