Is ConocoPhillips a Buy After Its Latest Earnings Report?

ConocoPhillips (NYSE:COP) continues to reward its shareholders. The oil and gas giant recently delivered strong third-quarter results, repurchased billions of dollars in stock, and increased its dividend by 11%. Those cash returns could grow considerably in the years ahead as the company completes several major development projects.

But does that make the oil stock a buy right now? Here's a look at the quarter and its return potential over the next five years.

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Higher oil prices fueled a surge in cash flow

ConocoPhillips delivered strong third-quarter results. The oil giant reported $3.9 billion of adjusted earnings, nearly double the $2 billion it posted in the year-ago period. That strong showing came despite a dip in production. The company produced an average of 2.3 million barrels of oil equivalent per day (BOE/d), a decrease of 97,000 BOE/d from the prior-year period due to asset sales, higher royalties in Canada, and Middle East supply disruptions. Higher oil prices helped it more than offset that decline. ConocoPhillips realized $61.40 per BOE in the quarter, 32% above the year-ago average.

Meanwhile, cash flow from operations was even more robust at $7.2 billion. That enabled the company to fund capital expenditures and investments ($3.1 billion), repurchase shares ($2.4 billion), and pay dividends ($1 billion). The company also closed $1.6 billion of noncore asset sales during the quarter. That allowed it to further strengthen its balance sheet, which ended the period with $10.4 billion of cash and $1.1 billion of long-term investments.

A major cash-flow inflection is coming

While higher oil prices were the story in the third quarter, the company isn't banking on rising energy prices to fuel future growth. It's investing heavily to expand its global liquefied natural gas (LNG) platform and to develop its Willow oil project in Alaska. The company expects these investments will add a peer-leading $7 billion in incremental annual free cash flow by 2029 at $70 oil. That's double last year's average at a roughly similar oil price.

Willow is the biggest catalyst. The company continues to make progress in developing this project, which it reported was more than 75% complete at the end of the third quarter. That puts it on track to deliver first oil in early 2029. The company estimates that it will see a $4 billion free cash flow inflection in 2029 when Willow comes online.

Its growth engine won't run out of fuel when Willow starts up. The company's high-quality portfolio positions it to continue growing well into the next decade. Willow is a hub that can support additional developments in Alaska. ConocoPhillips also has over two decades of drilling inventory in the lower 48 states, giving it lots of room to continue growing. It also has resources in Canada, the Middle East, and Libya, and should have additional opportunities to expand its LNG portfolio.

Is ConocoPhillips stock a buy?

ConocoPhillips strong resource base and visible growth profile should give it the fuel to continue growing its dividend and repurchase shares. The oil dividend stock recently hiked its payout by another 11%. Its long-term goal is to deliver dividend growth in the top 25% of S&P 500 members. These capital returns should create value for shareholders.

The biggest question is whether the company's total return potential is attractive at its current stock price. With oil prices surging this year, ConocoPhillips' stock has rallied more than 50% over the last 12 months. As a result, it's not as cheap as it once was.

Its return potential going forward depends heavily on oil prices. If they remain strong, the company could deliver robust returns. However, if they fall, the returns would likely be disappointing. Here's a look at the growth potential of a $1,000 investment in ConocoPhillips over the next five years, at three different scenarios:

Image source: The author.

I want to focus on the base case, which assumes oil prices average around $70 a barrel, matching ConocoPhillips' forecast. Under that scenario, the company would generate an annualized total return of around 7.5% from its current valuation. That's not a particularly attractive return. The company would need sustained higher oil prices to deliver a higher total return over the next five years.

So, while ConocoPhillips is entering a period in which it expects to deliver strong free cash flow growth relative to last year's baseline, it faces an uphill battle to deliver enticing returns from here after this year's surge in its stock price. That's why I don't think it's a particularly attractive investment right now at its current valuation. While the company delivered excellent third-quarter results, investors might be better off waiting for a lower price before buying shares.

Matt DiLallo has positions in ConocoPhillips. The Motley Fool recommends ConocoPhillips. The Motley Fool has a disclosure policy.